UNITED
STATES
  SECURITIES
AND EXCHANGE COMMISSION
  Washington,
D.C. 20549
  Amendment No. 2 to
 FORM
10-K
  x ANNUAL REPORT
UNDER SECTION 13 or 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  For the
fiscal year ended December 31, 2009
   ̈ TRANSITION REPORT
UNDER SECTION 13 OR 15(d) OF THE SECURITIES EXCHANGE ACT OF 1934
  For the
transition period from ____________ to ____________
  Commission
File Number 000-51364
  SINO
GAS INTERNATIONAL
 HOLDINGS,
INC.
  (Name of
small business issuer in its charter)
  Utah
              90-0438712(State
      or other jurisdiction
                of
      incorporation or organization)
              (IRS
      Employer Identification No.)
  No.18
Zhong Guan Cun Dong St.
 Haidian
District
 Beijing,
P. R. China 100083
 (Address
of Principal Executive Offices) (Zip Code)
  Issuer's
Telephone Number: 86-10-82600527
  Securities
registered under Section 12 (b) of the Act: NONE
  Securities
to be registered under Section 12 (g) of the Act:
  COMMON
STOCK, PAR VALUE $.001 PER SHARE
 (Title of
Class)
  Indicate
by check mark if the registrant is a well-known seasoned issuer, as defined in
Rule 405 of the Securities Act.
 Yes  ̈  No x
  Check
whether the issuer is not required to file reports pursuant to Sections 13 or
15(d) of the Exchange Act. Yes  ̈  No x
  Check
whether the issuer (1) filed all reports required to be filed by Sections 13 or
15(d) of the Exchange Act during the past 12 months (or for such shorter period
that the registrant was required to file such reports), and (2) has been subject
to such filing requirements for the past 90 days. Yes x   No  ̈
  Indicate
by check mark whether the registrant has submitted electronically and posted on
its corporate Website, if any, every Interactive Data File required to be
submitted and posted pursuant to Rule 405 of Regulation S-T (§232.405 of this
chapter) during the preceding 12 months (or for such shorter period that the
registrant was required to submit and post such
files).  Yes o  No  ̈
  Indicate
by check mark if disclosure of delinquent filers pursuant to Item 405 of
Regulation S-K is not contained herein, and will not be contained, to the
best of registrant’s knowledge, in definitive proxy or information statements
incorporated by reference in Part III of this Form 10-K or any
amendment to this Form 10-K.   ̈
  Indicate
by check mark whether the registrant is a large accelerated filer, an
accelerated filer, a non-accelerated filer, or a smaller reporting company. See
the definitions of “large accelerated filer,” “accelerated filer” and “smaller
reporting company” in Rule 12b-2 of the Exchange Act.
  Large accelerated filer  ̈
              
              Accelerated filer  ̈
              
              Non-accelerated filer  ̈
                (Do not check if a smaller
                reporting company)
              
              Smaller reporting
                company x
  Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Exchange Act).
 Yes  ̈ No x
  Indicate
by check mark whether the registrant is a shell company (as defined in Rule
12b-2 of the Act):
 Yes  ̈ No x
  The
aggregate market value of the 11,183,309 shares of voting and non-voting common
equity stock held by non-affiliates of the registrant was $4,920,656 as of June
30, 2009, the last business day of the registrant’s most recently completed
second fiscal quarter, based on the last sale price of the registrant’s common
stock on such date of $0.44 per share, as reported by The Over-The-Counter
Bulletin Board.
  As of
March 31, 2010, the Registrant had  26,769,313 shares of common stock
outstanding.
 
 
  TABLE OF
CONTENTS
  PAGEPART
      IItem
      1.
                    Business
                    
                    3Item
      1A.
                    Risk
      Factors
                    
                    34Item
      1B
                    Unresolved
      Staff CommentsItem
      2.
                    Properties
                    
                    51Item
      3.
                    Legal
      Proceedings
                    
                    53Item
      4.
                    Submission
      of Matters to a Vote of Security Holders
                    
                    54PART
      IIItem
      5.
                    Market
      for Registrant’s Common
      Equity, Related Stockholder Matters and Issuer Purchaser of Equity
      Securities
                    
                    54Item
      6
                    Selected
      Financial Data
                    
                    55Item
      7.
                    Management's
      Discussion and Analysis of Financial Condition and Results of
      Operations
                    
                    55Item
      8.
                    Financial
      Statements and Supplementary Data
                    
                    67Item
      9.
                    Changes
      in and Disagreements With Accountants on Accounting and Financial
      Disclosure
                    
                    67Item
      9A.
                    Controls
      and Procedures
                    
                    68Item
      9B.
                    Other
      Information
                    
                    70PART
      IIIItem
      10.
                    Directors,
      Executive Officers and Corporate Governance
                    
                    71Item
      11.
                    Executive
      Compensation
                    
                    75Item
      12.
                    Security
      ownership of Certain Beneficial Owners and Management and Related
      Stockholder Matters
                    
                    78Item
      13.
                    Certain
      Relationships and Related Transactions, and Director
      Independence
                    
                    81PART
      IVItem
      14.
                    Principal
      Accounting Fees and Services
                    
                    81Item
      15.
                    Exhibits,
      Financial Statement Schedules
                    
                    82Signatures
                    
                    89
  2
  PART
I
  Item 1. Business
  Information
regarding forward-looking statements and other information in this annual
report
  This
annual report and the documents to which we refer you and incorporate into this
report by reference contain forward-looking statements. In addition, from time
to time, we or our representatives may make forward-looking statements orally or
in writing. We base these forward-looking statements on our expectations and
projections about future events, which we derive from the information currently
available to us. Such forward-looking statements relate to future events or our
future performance. You can identify forward-looking statements by those that
are not historical in nature, particularly those that use terminology such as
“may,” “will,” “should,” “expects,” “anticipates,” “contemplates,” “estimates,”
“believes,” “plans,” “projected,” “predicts,” “potential” or “continue” or the
negative of these or similar terms. In evaluating these forward-looking
statements, you should consider various factors, including those described in
elsewhere in this report. These and other factors may cause our actual results
to differ materially from any forward-looking statement. Forward-looking
statements are only predictions. The forward-looking events discussed in this
report, the documents to which we refer you and other statements made from time
to time by us or our representatives, may not occur, and actual events and
results may differ materially and are subject to risks, uncertainties and
assumptions about us.
  Unless
otherwise noted, all currency figures in this filing are in U.S. dollars.
References to the “PRC” or “China” are to the People’s Republic of China.
References to “yuan”or “RMB”are to the
Chinese yuan (also known as the renminbi). According to the currency exchange
website www.xe.com, on March 26, 2010, $1.00 = 6.827 yuan.
  “Sino
Gas,” “we” and “the Company” refer to Sino Gas International Holdings, Inc. and
our subsidiaries or, as context requires, Sino Gas International Holdings, Inc.
alone. “Exchange Act” refers to the Securities Exchange Act of 1934, as
amended.
  3
  Unless
otherwise indicated, “2009” “2008” and  “2007” refer to the fiscal
years ended December 31, 2009, December 31, 2008,  and December 31,
2007, respectively.
  Overview
  Overview
  We are
engaged in the development of natural gas distribution systems and the
distribution of natural gas to residential and industrial customers in small-
and medium-sized cities in the People’s Republic of China (“PRC”), through our
indirectly owned subsidiaries in the PRC, Beijing Zhong Ran Wei Ye Gas Co., Ltd.
(“Beijing Gas”) and its subsidiaries.
  We
currently own and operate 39 natural gas distribution systems serving
approximately 145,000 residential and 7 industrial customers. Our facilities
include approximately 1,040 kilometers (“km”) of pipeline and delivery networks
with a daily distribution of approximately 110,000 cubic meters of natural gas.
We have two types of customers: (i) residential and (ii) industrial. The
following table presents, for the periods indicated, selected operating
data:
  At and for the year ended
                        December 312009
                      
                      
                      2008Total
      gas distributed and supplied (US$ millions)
                      
                      
                      15.7
                      
                      
                      
                      12.2Distribution
      network (km)
                      
                      
                      1,040
                      
                      
                      
                      710Number
      of industrial customers
                      
                      
                      7
                      
                      
                      
                      5Number
      of residential customers
                      
                      
                      145,000
                      
                      
                      
                      110,900
  We own
and operate natural gas distribution systems in small and medium sized cities in
Hebei, Jiangsu, Jilin and Anhui Provinces in addition to natural gas
distribution systems in the suburbs of Beijing. Beijing is not a province but a
municipality directly under the jurisdiction of China’s State Council and has
many urban districts in the suburbs.
  4
  
  We
generate revenues in two ways: (i) connection fees for the interconnections to
our natural gas distribution system and (ii) the sale of natural gas. The
following table presents, for the periods indicated, the revenues generated from
each of our major categories of operations:
  At and for the year ended
                                                                December 312009
                                                              
                                                              
                                                              
                                                              
                                                              2008(in US$
                                                                millions)
                                                              
                                                              
                                                              
                                                              
                                                              (in US$
                                                                millions)Connection
      fees (as % of total Sales)
                                                              
                                                              
                                                              11.9
                                                              (43
                                                              )%
                                                              
                                                              
                                                              9.3
                                                              (43
                                                              )%Gas
      sales
                                                              
                                                              
                                                              15.7
                                                              (57
                                                              )%
                                                              
                                                              
                                                              12.2
                                                              (57
                                                              )%Other
      sales
                                                              
                                                              
                                                              —
                                                              
                                                              
                                                              
                                                              
                                                              —
  5
  Our cost
of sales consists of cost of gas sales and cost of connection. Cost of gas sales
consists of cost of natural gas purchased from the suppliers, transportation
cost, depreciation of plant and equipment, and amortization of the capitalized
construction costs as our expenditures in constructing our pipeline
infrastructure are generally capitalized as fixed assets and amortized over a
period of time. Cost of connection includes certain construction costs that are
expensed. The following table presents Beijing Gas’s costs of sales for the
periods indicated:
  For the year ended Dec 31(US$ millions)
                        
                        2009
                        
                        
                        2008Gas costs
                        
                        
                        14.8
                        
                        
                        
                        11.1Connection
      costs
                        
                        
                        3.3
                        
                        
                        
                        2.9
  We buy
natural gas for distribution in two forms: (i) compressed natural gas (“CNG”);
and (ii) liquefied natural gas (“LNG”). Both CNG and LNG are natural gas that
has been compressed into canisters so as to enable transportation, usually by
truck, to the point of distribution or consumption. Typically CNG is compressed
under - pressure to less than 1% of its volume and transported at normal
temperature, while LNG is natural gas that has been converted temporarily to
liquid form for ease of storage or transport, which can take up about 1/600th the
volume. The key difference is that CNG is in compressed form, while LNG is in
liquefied form. CNG has a lower cost of production and storage compared to LNG
as it does not require an expensive cooling process and cryogenic tanks.
However, it is more cost-efficient to transport LNG over long distances because
of the reduction in volume. Generally, we transport CNG to a city if it is
located within 300 km from  the natural gas supplier and we transport
LNG to a city if it is located more than 300 km away from  the natural
gas supplier. Approximately 99% of the natural gas we purchase is CNG and
approximately 1% is LNG.
  Our
business is generally affected by two seasonal factors: First, between December
and March, the cold weather in northern China makes construction very difficult.
For a given gas distribution project, to avoid running into this time period, we
generally start the process of pipeline installation, which has a duration of
six to eight months, in April so as to complete the process before December. As
a result, our revenues from connection fees are higher in the third and fourth
quarter than that in the first and second quarters. Second, gas sales in winter
are generally higher than in summer, as our customers tend to consume more
natural gas for heating purposes.
  6
  Organization
and Structure of the Company
  We
operate through our indirectly-owned subsidiaries in the PRC, Beijing Gas and
its subsidiaries.
  As of
March 20, 2010, our corporate structure is set forth below:
  
  (1) The
subsidiaries of Beijing Gas are set forth below:
  7
  Name of Subsidiary
                  
                  Beijing Gas
                    Equity Interest %Peixian
      Weiye Gas Co., Ltd
                  
                  
                  90Sihong
      Weiye Gas Co., Ltd
                  
                  
                  95Wuhe
      Weiye Gas Co., Ltd
                  
                  
                  100Changli
      Weiye Gas Co., Ltd
                  
                  
                  100Yutian
      Zhongran Weiye Gas Co., Ltd
                  
                  
                  90Weixian
      Jinli Gas Co., Ltd
                  
                  
                  100Zhangjiakou
      City Xiahuayuan Jinli Gas Co., Ltd.
                  
                  
                  100Wuqiao
      Gas Co., Ltd
                  
                  
                  95Jinzhou
      Weiye Gas Co., Ltd
                  
                  
                  95Shenzhou
      Weiye Gas Co., Ltd
                  
                  
                  95Ningjin
      Weiye Gas Co., Ltd
                  
                  
                  95Linzhang
      Weiye Gas Co., Ltd
                  
                  
                  85Hengshui
      Weiye Gas Co., Ltd
                  
                  
                  100Longyao
      Zhongran Weiye Gas Co., Ltd
                  
                  
                  95Xingtang
      Weiye Gas Co., Ltd
                  
                  
                  95Gucheng
      Weiye Gas Co., Ltd
                  
                  
                  100Langfang
      Development Region Weiye Dangerous Goods Transportation Co.,
      Ltd
                  
                  
                  95Beijing
      Chenguang Gas Ltd.
                  
                  
                  100Xinji
      Zhongchen Gas Co., Ltd
                  
                  
                  100Tianjin
      Chenguang Gas Co., Ltd
                  
                  
                  100Luquan
      Chenguang Gas Co., Ltd
                  
                  
                  100Cheng’an
      Chenguang Gas Co., Ltd
                  
                  
                  100Nangong
      Weiye Gas Co., Ltd
                  
                  
                  100Sishui
      Weiye Gas Co., Ltd
                  
                  
                  95Guannan
      Weiye Gas Co., Ltd
                  
                  
                  100Sixian
      Weiye Gas Co., Ltd
                  
                  
                  100Baishan
      Wiye Gas Co., Ltd
                  
                  
                  100Hebei
      Wiye Gas Co., Ltd
                  
                  
                  100
  8
  Organizational
History of Sino Gas
  Sino Gas
International Holdings, Inc. was incorporated under the laws of the State of
Utah on August 19, 1983 as Evica Resources, Inc. On April 5, 1984, we changed
our name to American Arms, Inc. American Arms, Inc. commenced the manufacture
and sale of weapons and laser sights. On April 12, 1988, we changed our name to
American Industries, Inc. as we were no longer engaged in the manufacturing and
sale of weapons and laser sights. American Industries, Inc. was in the business
of providing room safes for hotels.
  On
February 19, 2002, we formed a subsidiary corporation named Pegasus Tel, Inc.
under the laws of the State of Delaware, in order to enter into the
telecommunications business. On March 28, 2002, Pegasus Tel, Inc. merged with
Pegasus Communications, Inc., a New York corporation, with Pegasus Tel, Inc. as
the surviving entity. On January 14, 2002 we purchased payphone assets
consisting of 29 payphones and associated equipment from the Margaretville
Telephone Company for $11,600.00.
  On May
21, 2002, we changed our name to Dolce Ventures, Inc.  We were an inactive
shell between May 2002 and September 7, 2006.
  On
September 7, 2006, the shareholders holding 72,569,764 shares of our common
stock, which constituted 72.01% of the then outstanding shares of our capital
stock, sold all of their shares to GAS Investment China Co., Ltd. (“Gas (BVI)”),
the parent company of Beijing Gas, for a cash consideration of $675,000. On the
same date, we consummated a share exchange transaction with the shareholders of
Gas (BVI), whereby we exchanged 14,361,646 shares of our Series A Convertible
Preferred Stock, par value $0.001 per share (“Series A Preferred”), which
constituted all of the then outstanding shares of our Series A Preferred, for
all of the issued and outstanding stock of Gas (BVI) held by the shareholders of
Gas (BVI). As a result of the share exchange transaction, Gas (BVI) became our
wholly-owned subsidiary, and Beijing Gas became our indirectly wholly-owned
subsidiary. In addition, as a result of the share exchange transaction, we
ceased being a shell company as such term is defined in Rule 12b-2 under the
Exchange Act and are now engaged in the development of natural gas distribution
systems and the distribution and supply of natural gas in the PRC.
  9
  On
November 17, 2006, we changed our name to Sino Gas International Holdings, Inc.
and effected a 304.44-for-1 reverse stock split which reduced the number of the
outstanding shares of our common stock from 100,770,140 to 331,002. Upon the
effectiveness of the reverse stock split, each of the 14,361,646 shares of the
then outstanding Series A Preferred was automatically converted into one share
of our common stock, resulting in all of the shareholders of Gas (BVI)
immediately prior to the share exchange owning approximately 97.7% of the
outstanding shares of our common stock immediately after the reverse stock
split, with Mr. Yuchuan Liu, the CEO of our company, owning 36.7%, Gas (BVI)
owning 1.6% and the original shareholders of Dolce Ventures, Inc. immediately
prior to the share exchange owning 0.6%. On August 18, 2008, Sino Gas
consummated a spin-off of Pegasus Tel, Inc. (“Pegasus”), a Delaware corporation
and a wholly-owned subsidiary of Sino Gas, to Sino Gas’ stockholders of record
as of August 15, 2008 (“Spin-off”).  The Ratio of Distribution of the
Spin-off was one (1) share of common stock of Pegasus for every twelve (12)
shares of  common stock of Sino Gas (1:12).  Fractional
shares were rounded up to the nearest whole-number.  An aggregate of
2,215,136 shares of Pegasus common stock were issued pursuant to the Spin-off to
an aggregate of 167 Sino Gas stockholders.
  Organizational
History of Gas (BVI) and Beijing Gas
  Gas (BVI)
was incorporated on June 19, 2003 in the Territory of the British Virgin Islands
with Mr. Liu Yu Chuan as its sole shareholder. Gas (BVI) is the holding company
for Beijing Gas. Prior to the acquisition of all of the equity interests of
Beijing Gas by Gas (BVI) as described below, Gas (BVI) had no business
operations, assets or liabilities, apart from organizational expenses and
fees.
  Beijing
Gas was originally formed as a limited liability company under the laws of the
PRC in 2001 under the name Beijing Yuan Wang Yu Cheng Construction Ltd., and
changed its name to its current name, Beijing Zhong Ran Wei Ye Gas Co. Ltd., in
June 2003.  On February 17, 2004, Gas (BVI) acquired all the outstanding
capital stock of Beijing Gas from its then shareholders. On July 14, 2004, Gas
(BVI) transferred 1% of the capital stock of Beijing Gas to Shen Zhen Shen Qi
Cheng Tong Investment Ltd., a limited liability company organized under the laws
of the PRC (“Shen Zhen Shen Qi”), and, simultaneously, Shen Zhen Shen Qi
invested RMB 20 million in Beijing Gas in exchange for 50% of its capital stock.
As a result, Gas (BVI) and Shen Zhen Shen Qi held 49% and 51% of the capital
stock of Beijing Gas, respectively. On April 30, 2006, Gas (BVI) acquired all of
the capital stock of Beijing Gas held by Shen Zhen Shen Qi in exchange for RMB
20.4 million. As a result of this transaction, Beijing Gas is now a “wholly
foreign owned entity” under PRC law by virtue of its status as a wholly-owned
subsidiary of Gas (BVI).
  Beijing
Gas has subsidiaries, known as project companies, in four provinces, and four
branch offices in Beijing. The project companies are the operating subsidiaries
of Beijing Gas. Each project company operates as a local natural gas distributor
in a city or county, which we refer to as an operational location, pursuant to
an exclusive franchise agreement with the local government or entities
responsible for administering and/or regulating gas utilities, pursuant to which
Beijing Gas is granted the exclusive right to develop and operate natural gas
distribution systems and distribute natural gas at the operational
location.
  10
  We now
have operations in Hebei Province, Jiangsu Province, Anhui Province, and Jilin
province and in the suburbs of Beijing through our four branch offices in
Beijing, We have operations in 23 cities in Hebei, 2 cities in Anhui, 4 cities
in Jiangsu and 1 city in Jilin province. Most of them have an urban population
of less than 300,000 and are experiencing quick urbanization. Hebei Province is
the closest province to the Chinese Capital city Beijing, where our headquarters
is located. Jiangsu Province and Anhui Province are two adjourning provinces in
eastern China, which are close to Shanghai City. Jilin Province is located in
North-Eastern China.
  Each of
the project companies is organized as a limited liability company under PRC law
with Beijing Gas holding an equity interest of 85% to 100% and an individual
shareholder nominally holding the remainder of the equity interest in such
project company. Each such individual shareholder has relinquished any and all
rights, power and interest of a shareholder in the respective project companies
under enforceable contracts. This structure was intended to comply with a PRC
law that required a limited liability company to have at least two shareholders,
which requirement was removed in January 2006. Beijing Gas intends to cause the
individual shareholders to transfer their shares in each of the project
companies back to Beijing Gas in the near future.
  In
addition, Beijing Gas holds a 40% equity interest in Beijing Zhong Ran Xiang Ke
Oil and Gas Technology Co. Ltd. (“Beijing Zhong Ran Xiang Ke”), a PRC joint
venture entity engaged in the business of development, licensing and sale of oil
and gas technologies and equipment, and sale of self-produced chemical
preparation for use in the exploration process of oil field. We did not derive
any material amount of revenues from this joint venture.
  In 2007,
we made the following acquisitions:
  On
January 15, 2007, Beijing Gas acquired 100% equity interest of Beijing Chenguang
Gas Ltd., Co. for a purchase price of 26,000,000 RMB (or approximately USD3.35
million) in cash. Beijing Chenguang became a wholly-owned subsidiary of Beijing
Gas. Beijing Chenguang is primarily engaged in the business of developing,
transfer and licensing of technologies regarding natural gas purification,
compression and transportation., as well as installation of natural gas
equipment and supply of natural gas. Mr. Zhicheng Zhou, our Chief Operating
Officer, owned 30% of Beijing Chenguang immediately prior to the acquisition. We
made full disclosure under the heading “Certain relationships and related
transactions” in this report.
  On June
20, 2007, Beijing Gas acquired 100% equity interest of Guannan Zhongyuan Natural
Gas Co., Ltd. for a purchase price of 7,500,000 RMB (approximately $987,000) in
cash. Guannan is a regional natural gas distributor and developer of natural gas
distribution networks in China's Jiangsu Province. The acquisition of Guannan
includes all of the assets and customer relationships of Guannan, including
concession rights to be the exclusive natural gas distributor in Guannan County,
Jiangsu Province, for a period of 30 years beginning June 29, 2007. This
acquisition is not with related parties.
  On July
9, 2007, we purchased the assets of Baishan Gas Co., Ltd., a regional
distributor and developer of distribution networks for natural gas in Jilin
Province for a price of $921,000 (RMB7,000,000). Under the asset purchase
agreement, we are responsible for paying outstanding debts of Baishan Gas Co.,
Ltd. in the amount of $4,000,000, which are due in periodic installments through
the year 2030. This acquisition is not with related parties.
  11
  On April
22, 2008, we entered into an agreement with the Qujing Development Investment
Co., Ltd. a PRC state-owned company and Yunnan Investment Group Co., Ltd, also a
PRC state-owned company, to set up Qujing Gas Co. Ltd to operate in the City of
Qujing, Yunnan Province (the “Qujing Gas”). The Company will hold a 39% equity
interest in Qujing Gas. The initial registered capital of the Qujing Gas is RMB
30 million (U.S.$4.29 million). This acquisition is not with related
parties.
  On April
23, 2008, the Company entered into an agreement to acquire 100% equity interest
in Tongshan Hengxin Jiaye Natural Gas Co., Ltd. (“Tongshan”), for a purchase
price of RMB 32.6 million (U.S.$4.66 million). Tongshan is a regional natural
gas distributor and developer of natural gas distribution networks in China’s
Jiangsu Province. This acquisition is not with related parties.
  Our
Industry
  China’s
Macro-Economic Environment for the Natural Gas Market
  Traditionally,
the PRC has relied heavily on coal and crude oil as its energy sources.
According to the China Statistical Yearbook, in 2004, coal, crude oil,
hydro-electricity and natural gas accounted for 68.0%, 22.3%, 7.1% and 2.6%,
respectively, of the PRC's total energy consumption. In 2005, the ratios were
68.9%, 21.0%, 7.2% and 2.9% respectively. In 2006, the ratios were 69.4%, 20.4%,
7.2%, and 3% respectively. In 2007, the ratios were 69.5%, 19.7%, 7.3%, and 3.5%
respectively. Based on the PRC government’s Eleventh Five Year Plan (2006-2010),
the ratios of coal, crude oil, hydro-electricity would change to 66.1%, 20.5%,
and 6.8% respectively, while that of natural gas would increase to 5.1%. Natural
gas has been primarily used as a raw material for chemical fertilizer and to
operate oil and gas fields. Accordingly, most natural gas is consumed for
production of fertilizer, while the non-production sector accounts for low
percentage of final consumption.. In 2007, non-production consumption of natural
gas was around 18.6 billion cubic meters, which was about 26.7% of total natural
gas consumption that reached 69.5 billion cubic meters (Source: National Bureau
of Statistics of China).
  The PRC's
heavy reliance on coal is out of line with world consumption rates for the same
time period, which was 26.5% in 2005 (Source: Energy Information Administration,
U.S. Department of Energy). The use of coal, however, causes air pollution and
other negative consequences to the environment. In the PRC, the heavy use of
unwashed coal has lead to large emissions of sulfur dioxide and particulate
matter. The latest air pollution study conducted by the Blacksmith Institute
shows that in 2007 two of the 10 most polluted cities in the world are located
in the PRC (Source: http://www.blacksmithinstitute.org). As such, there have
been serious environmental concerns in many countries around the world and
resulted in a global trend to reduce coal usage.
  12
  Recognizing
the serious problems caused by heavy reliance on coal usage, the PRC government
has aggressively moved to reduce coal usage by substituting coal with other,
more environmentally friendly, forms of fuel, such as natural gas. In
consideration of such trends, the PRC set out a policy to raise the share of
natural gas in the country's energy mix in its Ninth 5-Year Plan
(1996-2000). At the local government level, in many locations where natural
gas supply is available, local governments often require all new residential
buildings to incorporate piped gas connections in their designs as a condition
to the issuance of the construction or occupancy permits. Before 2000, the gas
distribution had principally been served by local municipal governments. Since
then, the industry has been open to private sector, whose investments have
fostered the wide use of natural gas in the PRC. The natural gas industry has
been deemed by the PRC government as a suitable industry for public and private
investments.
  Demand
for Natural Gas in China
  Currently,
natural gas consumption in the PRC accounts for  about 3% of its total
energy consumption. However, driven by environmental pressure from the demand
side and improvements in social infrastructure with economic growth, in the west
in particular, and stable energy supply, it is anticipated that the use of
natural gas will grow very rapidly in the PRC. According to the statistics of
the China National Development and Reform Commission (“NDRC”), the consumption
of natural gas as increased from 24.5 billion cubic meters in 2000 to 69.5
billion cubic meters in 2007, which represented an average growth of 16.06% per
year.
  China’s
Natural Gas Reserves and Gas Pipeline Infrastructure
  The PRC
abounds in rich natural gas reserves, which are distributed principally in
Xinjiang, Sichuan and Inner Mongolia in western and north-central China.
According to the statistics of the Energy Information Administration, proved
natural gas reserves in China are estimated to be 53,325 billion cubic feet in
2006, and 80,000 billion cubic feet in 2007.
  Because
the PRC’s largest reserves of natural gas are located in western and
north-central China, it requires a significant investment in gas transportation
infrastructure to carry natural gas to eastern cities and the rest of the PRC.
Until recent years, the PRC’s natural gas consumption was limited to local
natural gas producing provinces because of the lack of national long-distance
pipeline infrastructure.
  The
principal method for transportation of natural gas from a source to end users is
by means of pipelines. In order to develop the natural gas industry, it is
essential that the necessary pipeline infrastructure be in place so that natural
gas is easily accessible for distribution to end users at affordable
cost.
  Under
with the PRC government’s Tenth 5-Year Plan (2001-2005), the country’s longest
pipeline, known as the West-East Pipeline, was constructed and went into
operation in January 2005. It transports natural gas to demand centers in the
southeast from deposits in the western Xinjiang province to Shanghai, picking up
additional gas in the Ordos Basin along the way. The full length of the pipeline
is about 4,200 km with a designed annual throughput capacity of 20 billion cubic
meters, a delivery pressure of 10 megapascals and 35 processing stations
along the pipeline.
  13
  There are
other pipelines linking smaller natural gas deposits to consumers, such as the
pipeline linking the Sebei natural gas field in the Qaidam Basin with consumers
in the city of Lanzhou, Ganshu province in the northwest, and a pipeline linking
natural gas deposits in Sichuan province in the southwest to demand centers in
Hubei and Hunan provinces in the central PRC.
  In its
Eleventh 5-Year Plan (2006 - 2010), the PRC government re-affirmed its
commitment to making significant investments in the expansion of the natural gas
pipeline infrastructure over a period of 20 years.
  Natural
Gas Suppliers
  The
natural gas supply in China is dominated by the three large state-owned oil and
gas holding companies, namely China National Petroleum Corporation Group
(“PetroChina”), China Petroleum and Chemical Corporation Group (“Sinopec”), and
China National Offshore Oil Corporation Group (“CNOOC”). In 2006, production by
CNPC, Sinopec and CNOOC accounted for 73.7%, 14.1% and 12.2%,
respectively of the total national production. CNPC and Sinopec own and
primarily operate onshore pipelines while CNOOC owns and operates virtually all
off shore pipelines (Source: The Institute of Energy Economics of
Japan).
  Natural
Gas Distributors
  Before
2000, natural gas distribution had been principally served by local municipal
governments. Since then, the natural gas industry has been designated by the PRC
government as a suitable industry for public and private investment and has been
open to private investment which has fueled the development of the industry and
fostered a wider use of natural gas in the PRC. In large cities where the
population exceeds 500,000, the natural gas distribution business is dominated
by state owned companies, while in cities where the population is less than
500,000, natural gas distribution is carried out by many privately owned
companies, most of which operate in just a few locations.
  The
Gas Delivery Process
  The
natural gas delivery process is categorized by three segments: production,
transmission and distribution, as shown in the chart below:
  14
  
  Production
involves underground exploration, drilling, extraction and purification of the
natural gas. After extraction from a gas well, natural gas is transported to
nearby refineries for removal of water and other impurities. The natural gas is
then transported from the refineries via long distance pipelines under extremely
high pressure facilitating the supply to a large number of locations near these
pipelines at high speeds. The long distance pipelines are owned and operated by
PRC state owned oil and gas exploration and production companies such as Sinopec
and PetroChina.
  Distribution
companies (such as our company) distribute natural gas to end users and often
own the gas pipeline infrastructure rights of an operational location (including
the local pipelines, the processing stations, and the branch pipelines). A
distribution company purchases natural gas from oil and gas exploration and
production companies. The distribution company determines the method of
delivering natural gas to its desired destination after taking into account
factors such as the distance between the stations along the major pipeline and
delivery points and the expected demand for gas from the relevant gas supply
locations.
  The
transportation of CNG and LNG involves the delivery of natural gas by trucks
from gas wells or stations located along the relevant long distance pipeline to
a processing station. Such processing stations may contain CNG or LNG pressure
regulating facilities which will depressurize the CNG or LNG to reduce the
pressure of natural gas from high pressure to medium pressure, before
transferring the natural gas to a local pipeline.
  15
  The
processing station is usually located on the outskirts of an operational
location for safety reasons and it provides certain ancillary facilities,
including  the addition of bromine to the gas to enable the detection
of leakages when the gas is transmitted through the pipelines, and storing the
gas under high, medium or low pressure to be used as reserves for future
unexpected fluctuation in demand.
  High
pressure gas storage tanks usually have thicker walls and therefore, are more
expensive to construct than gas storage tanks for storage of gas under medium or
low pressure.
  After
processing, the gas is transmitted under medium pressure to the local pipelines.
Local pipelines are laid within an operational location and represent the
backbone of the local gas delivery system. Different sections of the local
pipelines operate at slightly different pressures, with computer controlled
regulators controlling the flow of natural gas for delivery to end users via the
branch pipelines and customers’ inlets.
  When
there is a demand for a connection of gas to a particular area within a gas
supply location, the distribution company will invest in the construction of the
branch pipelines to connect the local pipelines to the pressure regulating boxes
located in the end-users’ buildings or premises. The pressure regulating box
reduces the natural gas to a lower pressure before the natural gas is
transmitted to the customers’ inlets. Customers’ inlets transmit the natural gas
through the pressure regulating box to the end users.
  Our
Strategy
  Our
strategy involves: (i) expanding our presence in small and medium sized cities;
(ii) acquiring existing gas distribution systems and/or franchises; and (iii)
expanding our business upstream by developing and maintaining pipelines that
connect China’s East-West Gas Pipeline with the cities where we have our gas
stations or where other distributors own distribution networks.
  (i) Expand Our
Presence in Small and Medium Sized  Cities by Obtaining Additional
Exclusive Franchises. We have focused on small (with urban population in
the city proper of less than 300,000) and medium sized (with urban population in
the city proper of less than 1,000,000) cities, generally near a larger
metropolitan area where there is little competition to obtain a franchise, and
where our franchise grants us exclusivity. In such places in the PRC, we are in
a better position to obtain exclusive natural gas distribution system
development and supply franchise agreements in negotiating with the
cities.  These smaller cities urgently need to provide their citizens
with energy and usually do not have the leverage of very large cities, which can
attract multiple bidders for their franchises. Accordingly, we require and
receive an exclusive franchise entitling us to be the sole natural gas utility
in such city. Usually, our franchises are for a period of 25 to 30 years. Since
our founding, we have successfully obtained 29 franchises in small and medium
sized cities, of which 28 have already developed and 1 is still under
development. In 2008, we were able to secure one development
project.
  16
  (ii)
Acquire Existing Franchises and Gas Distribution Networks to Facilitate
Growth. Our expanded presence in small and medium sized cities was
accomplished not only by securing franchises and developing gas distribution
networks ourselves but also by acquiring existing franchises and networks from
other operators. We believe acquisitions will provide us opportunities for
growthas
well as enable us to explore opportunities in bigger cities (with urban
population in the city proper of more than 300,000). Normally we target
companies that have valuable assets and market prospects with strategic
locations.
  (iii) Expand into
Upstream Business. We currently develop gas distribution networks which
deliver gas from our storage and distribution station in a particular city to
residential or industrial customers in that city. We do not have pipelines that
connect the national main pipeline that runs across China from the West to the
East with the cities where we our customers are located. We have to deliver the
gas we purchase from the main pipeline operator to our gas storage facilities in
different cities by trucks. We intend to expand into the upstream business by
developing regional distribution networks to connect the West-East main pipeline
with cities that are not located near the passageway of the national main
pipeline. By developing and maintaining regional pipelines, we believe we can
deliver natural gas to our customers more efficiently and with potentially
higher margins. In addition, such regional distribution networks can be used by
other gas distributors along the pipelines, which will add potential revenue
sources for us. As the development of such regional networks require a
significant capital outlay, we intend to start exploring such projects after we
are able to raise a significant amount of funds in the future.
  (iv) Raise
Additional Capital . We are in a capital-intensive business due to the
fact that a major part of our activities is to build local natural gas
distribution networks which requires larger capital outlay.
  Although
the connection fees we charge our customers provide us with the needed capital
for building local natural gas distribution networks to a large degree, they may
not provide sufficient capital if we carry out the acquisitions and upstream
expansion as we have planned. Our growth will, therefore, depend on our ability
to raise additional funds. We anticipate using our financing strategy as a
competitive tool. Our goal is to duplicate the type of financing and related
financial instruments used by utilities in the United States, including the
issuance of subsidiary level, non-recourse debt, preferred stock and holding
company fixed income issuances. Such a financing plan would not only give us a
favorable cost of capital, but enhance investor returns and keep investor
dilution at a minimum.
  Competitive
Advantages
  We
believe we have the following competitive advantages:
  (i) Better
Relationships with Natural Gas Suppliers. We have been able to develop
good relationships and therefore secure contracts with large state-owned natural
gas producers such as PetroChina and China Petroleum Chemical. These contracts
have ensured a stable supply of natural gas for us.
  17
  (ii) Experienced
Management and Technical Personnel.We have a team of senior
executives who are industry experts in managing larger Chinese petroleum and/or
gas companies with scores of years of combined experience in running our company
or managing businesses in our industry. Our founder and Chief Executive Officer,
Mr. Yuchuan Liu, is a natural gas industry expert with over 20 years experience
in senior management positions at PetroChina and China Gas Holdings Limited, a
Hong Kong Stock Exchange-listed PRC company. Our Chief Operating Officer, Mr.
Zhicheng Zhou, served as the director and General Manager of Beijing Chenguang
Gas Co., Ltd. from late 2002 to 2006. Our Chief Engineer, Mr. Shukui Bian, is
one of the draftsmen of the PRC national standard for urban gas supply, and was
previously the chief executive officer of the First Oil Extraction Plant of
North China Oilfield. Our company was one of the earliest to engage in the
natural gas distribution business in small and medium sized cities, and thus
having gained significant experience in this market segment.
  (iii) Experienced Sales
and Marketing Team. Our sales and marketing team has gained significant
experience in working with local governments and identifying potential markets
in small and medium sized cities. Due to their effort, we have won franchises
for 29 locations.
  (iv) US Capital
Markets Access. By becoming a US public company, we have gained access to
size and efficiency of the US capital market. We will be able to raise funds, as
we have done, for our expansion and growth, albeit our ability to raise funds in
the US is a limited one because we have not been listed on any major US national
stock exchanges. Very few Chinese companies that are in the natural gas
distribution business have become US public companies.
  Products
and Services
  Currently,
we generate revenues primarily from the connection fees we charge our customers
for connecting to the pipelines in our natural gas distribution systems which we
have constructed, and fees for natural gas we charge our customers based on
usage.
  We
recorded connection fees in the amounts of $11.89 million and $9.29 million for
the fiscal years ended December 31, 2009 and 2008 respectively, constituting
43.08% and 43.30% of total revenues for those years. Sales of natural gas were
$15.70 million and $12.16 million for the fiscal years ended December 31, 2009
and 2008, respectively, constituting 56.92% and56.70% of the total revenues for
those years.
  18
  Connection
Fees
  We charge
our real estate developer customers a flat connection fee for the installation
of gas lines to each of their apartments or housing units. The level of
connection fees varies among operational locations and is determined based on a
detailed analysis of factors such as estimated capital expenditure, fees charged
in surrounding cities, number of users, expected penetration rates, income
levels and affordability to local residents and is approved by the relevant
local state price bureau. The average of these connection fees for the company
in 2009 was approximately $362.4 per household. For industrial customers, the
connection fee is determined based on the facility capacity (on a cubic meter
per day basis 300 RMB per cubic meter). Should additional capacity be needed,
these customers are required to pay additional connection fees for the
additional capacity installed. Connection fees are usually paid in installments,
with 30% within certain days set out in the contracts after the start of each
project, 30% at milestones set out in the contracts, 30% upon completion and 10%
guarantee which is paid after one year. Connection fees generally provide a
60-80% profit margin. The rates of connections fee are set by the local state
price bureau based on the connection fees charged by other gas distributors in
surrounding areas and can vary in different cities. In most cases, we accept the
price set by the local state price bureau. But if we find the price does not
offer a profit margin equal or greater than 20%, we will negotiate with local
governments for an increase and local governments usually agree to increase our
connection fees under such circumstances. The connection fees in most cities are
very close to our average connection fee per household. Gas usage fees are also
subject to the approval of the local state price bureau. Future price increases
are also subject to the same approval process. In considering applications for
an increase in gas usage charges, the local state price bureau may consider
factors such as increases in the wholesale price of gas or operating expenses,
inflation, additional capital expenditure, and whether the profit margin remains
fair and reasonable.
  When
entering into master supply contracts for mass connections, we usually require
the payment of deposit from customers while the balance is payable in accordance
with the terms set out in the contracts. In the event customers default in the
payment of connection fees, we will not start the supply of natural gas until
the connection fees are paid.
  Gas
Usage Charges
  We arrive
at gas usage charges after taking into consideration the wholesale price of gas,
operating costs, price of substitute products, internal business model margins
and the purchasing power of local residents. Gas usage charges are based on
actual usage on a per cubic meter basis. The gas usage charges per cubic meter
vary between operational locations and the payment mechanism between different
categories of customers varies.
  Since our
inception, the majority of our residential customers have purchased gas units in
cash at our sales outlets with details of the prepaid gas units stored
electronically on a debit card. The debit card is inserted into a debit card
debit gas meter installed at the end user’s premises to activate the gas supply.
Units of gas used are deducted from the debit card. When the level of prepaid
gas units drops to a certain level (currently pre-set at three cubic meters),
the gas meter will produce a sound signal to remind the customer to replenish
the value stored in the debit card. Over 85% of our residential customers
utilize the debit card payment method. This payment method provides significant
advantages to us as all gas purchases are prepaid - not at the point of sale or
in arrears.
  For those
residential customers without a debit card gas meter installed and for
commercial and industrial customers, payments for natural gas usage are made in
arrears. Gas meters that record actual gas consumption are installed at the end
users’ premises and meter readings are taken physically by our staff every
month. Monthly bills based on the prior month’s actual usage are then sent to
customers. In the event customers default in payment of gas usage charges, gas
supply will be suspended within one month of billing.
  19
  Our
Business Activities
  Our major
business activities include development and construction of local gas
distribution networks, transportation of natural gas from suppliers to our
storage facilities in a given operational location, and operating and
maintaining the gas distribution networks.
  Development
  (i)Identifying distribution
opportunities in new operational location: Our business development team
actively explores and identifies suitable areas of service by conducting market
research on potential operational locations where the demand for piped natural
gas is desired. Because of our experience and ongoing cooperation with
governmental authorities, we also receive invitations from local governments to
bid for new natural gas projects or to take over existing natural gas
projects.
  As the
piped natural gas supply industry in the PRC is still in the early stages of
development, most areas in the PRC are not yet supplied with piped natural gas
even though they may be in close proximity to natural gas sources. Due to the
capital intensive nature of new natural gas distribution projects, we are very
selective in our choices for new operational locations.
  The
selection of new operational locations is determined after conducting
preliminary evaluation and studies on the target locations, and return on
investment. The criteria for any potential operational location that are
investigated and documented by us are:
  1.
              Size and density of
      population.
 
 2.
              Economic statistics of the
      targeted locations.
 
 3.
              Extent and concentration of
      industrial and commercial
activities.
 
 4.
              New property development in the
      target location.
  20
  5.
              Projected levels of connection
      fees and gas usage charges.
 
 6.
              Extent of the local government’s
      commitment to environmental protection, environmental policies in place,
      and the local population’s awareness of environmental
      issues.
 
 7.
              Likelihood of exclusive
      operational rights and preferential treatment on tax and governmental
      fees.
 
 8.
              Types of gas supply (piped
      natural gas, CNG or LNG) and methods of delivery. CNG trucks are deployed
      if the gas source, or long distance pipeline, is located within 300 km.
      Generally, LNG trucks are used if the gas source, or long distance
      pipeline, is located beyond 300
km.
 
 9.
              For an acquisition of existing
      natural gas projects, the cost of acquisition, quality of assets and/or
      business are also valued. In addition, the liabilities of the business are
      analyzed along with any other perceived or actual problems
      encountered.
  Based on
the findings of the investigation, our business development team will decide
whether to make a recommendation to management for approval to proceed with
discussions and negotiations on a new project. We have conducted dozens of
preliminary evaluations since our inception in 2003.
  (ii) Securing a New
operational location. Once we have approved a potential natural gas
distribution project in an operational location, we normally set up a local
independent subsidiary, also known as a project company, to administer the
project for its lifetime. We then prepare and submit a detailed gas project
proposal to the local government and commence negotiations on major issues such
as the granting of exclusive rights or rights of first refusal to supply gas to
that location, proposed connection fees and gas usage charges and whether any
tax and other concessions or favorable policies will be granted by the local
government. Once established, the project company will conduct a series of
marketing and promotional campaigns (which may include joint promotional
campaigns with the local government) to increase public awareness of piped
natural gas in the operational location. Concurrently, we begin actively seeking
out potential customers in the operational location and negotiate the terms of
supply contracts with the aim of entering into supply contracts as soon as
possible with such customers.
  21
  (iii)Construction.
  (a) Design stage.The design of the gas
pipeline infrastructure for a natural gas distribution project includes the
processing stations, the local pipelines and other ancillary facilities such as
gas storage tanks. It is carried out by a government approved design institute
in accordance with our requirements and specifications. It also takes into
account the local population size, the development of the economy, the
utilization of energy resources and the environmental conditions. The master
design is subject to approval by the local city construction department. The
design stage normally takes two to three months.
  (b) Construction Stage.Once the design is
approved, we invite independent qualified contractors to tender bids for the
construction work. The selection criteria for the contractors include their
qualifications, experience, expertise, reputation, familiarity with the local
environment, prior experience with us and price. We generally enter into turnkey
contracts with independent contractors for construction, installation and
maintenance of the natural gas pipelines. We pay a down payment with the
remainder to be paid upon completion of the project. At the time of entering
into turnkey contracts, we source raw materials such as piping, gas regulating
equipment and machinery. We have strict quality control procedures for the
sourcing of supplies for all construction purposes.
  Our
internal engineers and independent external inspectors monitor the entire
construction process to ensure that each stage of construction meets our quality
and safety standards and the relevant regulatory requirements.
  For a
given operational location, although the gas pipeline infrastructure is designed
to cover the entire operational location, our construction program focuses on
early gas delivery to areas of concentrated customer demand within such
operational location. This ensures that natural gas supply can begin as soon as
the essential gas pipeline infrastructure and facilities such as the processing
stations are completed. Construction work in a target area will gradually extend
to cover the whole operational location, which typically takes two to five
years.
  Operation
  Once the
necessary gas pipeline infrastructure is in place in a given operational
location, we begin the design and construction of the branch pipelines and
customers’ inlets pursuant to gas supply contracts with customers. The designs
of branch pipelines and customers’ inlets are normally prepared by us, reviewed
by a government approved design institute, and carried out by external
contractors. Upon completion of the construction of the branch pipelines
and customer inlets in the operational location, we begin to supply and sale
natural gas and related services to customers within the operational location
pursuant to supply contracts with such customers. The natural gas to be supplied
to the residential or industrial customers is carried by trucks with canisters
that contain CNG or LNG, to our storage facilities in various operational
locations for storage, decompression and gasification. From those storage
facilities, the gas is transported through our pipeline system to our end
users.
  22
  Intellectual
Property
  We do not
hold any registered trademarks or patents. We have developed a proprietary
natural gas compression process that allows us to effectively and economically
compress natural gas and distribute it.
  We own
and operate a website under the internet domain name
www.sino-gas.com.
  Research
and Development
  We have
eight full-time employees engaged in the company-sponsored research and
development efforts. These employees specialize in the fields of energy,
mechanical and electronic engineering. Areas that are targets of our ongoing
research and development activities include:
  ·
              Methodology and practices to
      increase operating efficiency and safety
  standards.
 
 ·
              Expansion of the applications for
      natural gas, such as gas-fuelled air conditioners, washing machines and
      dryers, and the use of CNG in motor
  vehicles.
 
 ·
              Improvements in gas storage and
      transportation systems, especially the reduction of the size of the
      storage facilities.
  Sales
and Marketing
  Our main
sales office, which is located in Beijing, has three staff led by the Vice
President of Marketing and is responsible for managing our overall sales
policies and devising our marketing strategy. They are responsible for
developing and maintaining accounts with major industrial customers and large
real estate developers. They regularly visit potential customers and conduct
meetings with them to determine if demand exists and to introduce the advantages
of using natural gas.
  We have
approximately 25 sales and marketing staff at our operational locations who
target residential customers by working with local neighborhood committees and
government agencies. In addition, they coordinate with our national office in
targeting industrial customers and local developers. We establish a project
company at each operational location and the local sales and marketing team for
each project company works together with the main office team to structure an
appropriate plan accommodating the specific needs and circumstances of the
operational location. Our marketing team plays an active role in lobbying the
relevant government authorities during the negotiation stage.
  23
  The sales
and marketing team is responsible for our company image and brand building, as
well as promoting the advantages and concept of using natural gas as a necessary
part of modern day life. Once established, a project company will implement a
series of promotional campaigns (which may include joint promotional campaigns
with the local government) to increase public awareness of piped natural gas in
an operational location. At the same time, the project company begins to
actively seek out potential customers in the operational location and negotiate
the terms of supply contracts with the aim of entering into supply contracts
with such customers as soon as possible.
  Our
Customers
  We have
two principal types of customers: (i) residential customers and (ii) industrial
customers.
  Residential
Customers
  Natural
gas is primarily used by residential owners for cooking as well as water and
space heating. We market directly to property developers, government departments
and organizations, private companies and state-owned enterprises, as these
entities enter into master supply contracts with us for the connection of gas to
all the units within a residential development (new or existing, owned by such
entities or their respective employees). These entities are responsible for
making, or they coordinate with the end users to facilitate our efforts in
collecting the advance payment of connection fees, while gas usage charges are
paid by the individual end users. For new residential developments, connection
fees are usually paid in installments, with 30% paid within certain days set out
in the contracts after the start of each project , 30% paid at milestones set
out in the contracts, 30% paid upon completion, and the final 10% guarantee
generally used for retention  for quality warranty to the developer,
which is normally received after one year.
  We also
perform gas connection services to existing buildings formerly without piped
natural gas supplies. Representatives of the buildings will consult individual
households as to whether they wish to have piped natural gas supply and
coordinate the collection of connection fees from the end users on our behalf.
Both connection fees and gas usage charges are payable in advance by the
individual end users. We build pipelines to connect these customers to our gas
storage facilities and supply gas at market price after receiving payment. The
inlets that are located inside the home and gas appliances are owned by the end
users, with one-year quality guarantee by us. We maintain the pipelines outside
the end user’s homes. The contracts are generally renewable on a yearly
basis.
  At
present, we have approximately - 145,000 end users in Beijing Hebei, Jiangsu,
Jilin and Anhui. Our top five residential customers, who are developers or
owners of residential areas, are shown below:
  24
  Percentage of
                    Connections
                    Fees for the year ended
                    December 31,Customers
                  
                  2009
                  
                  
                  2008Tongshan
      Hengxin  Co. Ltd.
                  
                  
                  7.46
                  %
                  
                  -
                  %Beijing
      Huicheng Real Estate Development Co. Ltd.
                  
                  
                  5.52
                  %
                  
                  -
                  %Baishan
      Huixin Real Estate Co.
                  
                  
                  5.28
                  %
                  
                  -
                  %Oriental
      Sun-Town Real Estate Co.
                  
                  
                  4.62
                  %
                  
                  
                  5.3
                  %Baishan
      Xingda Real Estate Co.Ltd.
                  
                  
                  3.5
      0
                  %
                  
                  -
                  %Total
                  
                  
                  26.38
                  %
                  
                  
                  5.3
                  %
  Industrial
and Commercial Customers
  Our
industrial customers use natural gas primarily for heating, air conditioning,
water heating and cooking purposes. These customers we target include
manufacturers, owners of hotels, restaurants, office buildings, shopping
centers, hospitals, educational establishments, sports and leisure facilities
and exhibition halls. Natural gas has a wide variety of applications for
industrial customers such as fuelling industrial boilers, furnaces, ovens,
incinerators, foundries and steamers as well as water and space heating in staff
canteens and dormitories within the industrial customers’ premises. We enter
into supply contracts with these customers for the distribution of gas to their
premises, and both connection fees and gas usage charges are borne by such
customers.
  The table
below presents information about our top five industrial customers for the
periods indicated:
  Percentage of Sales
                    Fiscal year ended
                    December 31,Customers
                  
                  2009
                  
                  
                  2008Hebei
      Zhong Gang Steel
                  
                  
                  20.46
                  %
                  
                  
                  25.23
                  %Hongyuan
      Caituban Factory
                  
                  
                  6.17
                  %
                  
                  
                  -
                  %Huabei
      Machine Factory
                  
                  
                  2.99
                  %
                  
                  
                  3.97
                  %Jingzhou
      Zhongyou Co.
                  
                  
                  1.13
                  %
                  
                  
                  -
                  %Elite
      (Lang Fang) Textile
                  
                  
                  1.04
                  %
                  
                  
                  0.88
                  %Total
                  
                  
                  31.79
                  %
                  
                  
                  30.08
                  %
  25
  Materials
and Supplies
  Natural
Gas
  The
principal supplies purchased for our business are natural gas. Purchase of
natural gas represented 81.8% and79.3% of our total cost for the fiscal years
ended December 31, 2009 and 2008, respectively. Generally, approximately 99% of
the natural gas we purchase is CNG and approximately 1% is LNG.
  Our
principal CNG supplier has been the Fourth Oil Extraction Plant of the North
China Oilfield (the “North China Oilfield”), a subsidiary of PetroChina. Our LNG
supplier has been Henan Zhong Yuan Lu Neng Advanced Technology Ltd. Co. (“Henan
Zhong Yuan”), a subsidiary of SinoPec. Historically, we have purchased majority
of our CNG from North China Oilfield and majority of our total purchases of LNG
from Henan Zhong Yuan.
  We have
supply contracts (with terms from 1 to 3 years renewable but no fixed price,
which price is set indirectly by the PRC National Development and Reform
Commission (“NDRC”) irregularly and can be passed along to the end customers)
with these suppliers and have not experienced any shortage of natural gas supply
in the past. To prepare for growth, we have also entered into agreements with
new suppliers to meet our growing demands.  These contractual relationships
with our suppliers allow us to pursue natural gas distribution projects in a
wide range of operational locations.
  The
wholesale price of natural gas is agreed upon between the suppliers and us with
reference to the wellhead price which is determined by NDRC with approval from
the PRC State Council, distance of transportation, purification fees and the
supplier’s operating costs. The wellhead price of natural gas is with a 10%
allowance for upward or downward adjustments as a result of negotiations between
suppliers and distribution companies, such as Beijing Gas. Generally, we are
only required to pay for the actual quantity purchased and there is no penalty
should we purchase less than the stated amount.
  26
  Piping,
Machinery and Equipment
  Piping,
machinery and equipment constitute 60-70% of our construction expenditure. We
purchase such supplies through a bidding process which is administered by the
procurement committee. Potential suppliers are evaluated on their proposed terms
including technical specifications, price, payment terms and post-sale services
and the procurement committee keeps a scoring system based on these parameters.
After validation of the various suppliers’ service and capabilities for stable
supply, we acquire the needed materials and parts from the supplier offering the
best terms.
  We
purchase pipes of various size and thickness domestically for installation in
different segments of our natural gas pipeline infrastructure according to
specifications that comply with PRC standards and regulations. Payments for
equipment, pipes and machinery are purchased with credit terms ranging from 30
to 90 days. We generally do not purchase gas appliances except gas meters which
we purchase in bulk directly from manufacturers in China and maintain a limited
inventory of them. We also provide repair and maintenance service to the gas
appliances supplied. We generally provide a one-year warranty of our gas
distribution system to our customers, during which time we provide free
check-ups of the pipeline and repair for any appliances we
provided.
  In 2009,
we purchased approximately $4,012,922 of pipes, machinery and
equipment.
  Competition
  Since our
inception, we have focused on supplying natural gas to small and medium sized
cities in the PRC where the average urban residents in the city proper is
300,000 and below, where the natural gas penetration rate is typically 0%, and
where we are able to obtain exclusivity for natural gas distribution from the
local government. In entering into these small and medium sized cities, we are
generally authorized to be the sole supplier of natural gas by the local
governments pursuant to franchise agreements for a typical term of 25 to 30
years. This differs from the bigger natural gas distribution companies which
have focused on a few areas with large populations. The larger cities are very
competitive markets that tend to offer less flexibility for advantageous pricing
arrangements. Due to our smaller city focus where the operating cost is low and
competition is much less intense, we believe we generate profit margins and
returns at or above industry-average levels.
  As we
compete principally with small- to medium- sized private companies in the
natural gas distribution industry, the information about our competition and
competitive position is limited. Based on the information available to us, we
estimate that there are approximately 200 small- to medium- sized private gas
distribution companies in the PRC. Most of these companies target local towns,
rather than take the approach that we do, of targeting cities in different
provinces. Also, most of these companies operate an average of three or four
natural gas distributions systems, as compared to the 39 natural gas
distribution systems that we operate.
  27
  Based on
the division of the administrative districts in the PRC as of December 31, 2005,
it has been estimated that there are approximately 2,862 smaller cities in the
PRC with urban dwellers in the city proper between 100,000 to 300,000. Among
them, approximately 800 smaller cities have the potential to be supplied with
natural gas and over 100 smaller cities have already been supplied with natural
gas. Among the over 100 smaller cities where natural gas is already available,
Beijing Gas is the distributor to 27 of them, and, therefore, we believe we have
the largest market share among our peer businesses that target the natural gas
market among smaller cities.
  The
following are our natural gas competitors in China:
  Ticker
                    
                    2009 Revenue
                      (in
                      $millions)
                    
                    
                    2009 Net
                      Income
                      (in
                      $millions)Towngas
      China Co., Ltd (Panva Gas)(1)
                    1083.HK
                    
                    
                    336
                    
                    
                    
                    34Xinao
      Gas Holdings Ltd(2)
                    2688.HK
                    
                    
                    1,062
                    
                    
                    
                    81China
      Gas Holdings Limited(3)
                    0384.HK
                    
                    
                    813
                    
                    
                    
                    13
  (1)
Towngas China Company Ltd., formerly Panva Gas Holding Limited, is supplier of
gas, including liquefied petroleum gas (LPG) and natural gas in eight Chinese
provinces, where over 40 companies of the Group are providing gas fuel
services.
  (2) Xinao
Gas Holdings Limited is principally engaged in the investment in, and the
operation and management of, gas pipeline infrastructure and the sale and
distribution of piped and bottled gas in China with operations in four
divisions: gas connection, sales of piped gas, distributions of bottled LPG and
sales of gas appliances.
  (3) China
Gas Holdings Limited (China Gas) is an investment holding company. The Company
is an operator of natural gas services principally engaged in the investment,
operation and management of city gas pipeline infrastructure, long-distance,
high-pressure pipelines, distribution of natural gas to residential, commercial,
industrial and vehicle users, construction and operation of oil stations, and
gas stations, as well as liquefied natural Gas (LNG) liquefaction plants, and
development and application of oil and natural gas related technologies. The
Company has four operating divisions: property investment, financial and
securities investment, gas connection and sales of piped gas.
  28
  Safety
and Quality Control
  Safety
Control
  We are
focused on safety, have implemented a safety system and have set up a safety
department to oversee safety issues for all of our operations. We carry out
routine inspection of the branch pipelines, customers’ inlets, gas meters and
gas appliances at the customers’ premises twice annually. These semi-annual
inspections are free unless major repairs are required in which case we charge
the customers for labor, replacement parts and other materials used for the
repairs.
  We
believe in educating users about safety procedures. Before gas is actually
supplied, we provide a thorough explanation of safety procedures to end users,
hold regular seminars, and distribute brochures and booklets on safety. We have
a 24-hour telephone help line for enquiries and reporting of emergency
matters.
  In order
for us to monitor the operations of the pipelines for abnormal gas usage, gas
leakages, or any other irregularities, we collect information about the
temperature, pressure and volume of gas from key points along the local
pipelines. The information is collected in the control center located in the
head office of each operational location for analysis. We use process control
instruments known as Supervisory Control and Data Acquisition systems, in which
a number of small detectors are installed along the pipelines to collect
information and process the data electronically in real time at the control
center. Each project company conducts a major inspection of its pipelines,
processing station(s) and other equipment at least once annually. If gas
leakages or any other irregularities are detected, we will take remedial action
immediately.
  Due to
the strict implementation of safety control procedures, there have been no major
accidents which have resulted in serious injury or death since our
inception.
  Quality
Control
  Quality
control begins in the design and construction phase of the natural gas supply
infrastructure. Our quality control team regularly makes inspection visits and
conducts tests to ensure that the construction work meets our required standards
as well as national and local regulations.
  29
  We also
have strict quality control procedures for the sourcing of raw materials. We
only purchase from our approved list of qualified suppliers and such suppliers
have fulfilled the relevant requirements in accordance with national
standards.
  In order
to monitor the quality of gas purchased by us, we obtain gas composition reports
regularly from our gas suppliers with data on important measures such as the
heat content and composition of impurities in our gas supply. We also conduct
regular tests on the gas purchased in order to verify its quality.
  Insurance
  We
currently do not carry any product liability or other similar insurance, and we
have only basic property insurance covering our plants, manufacturing equipment
and office buildings.
  We
maintain social insurance for our staff and employees in accordance with
relevant requirements under PRC law.
  Government
Regulations
  Pricing
Regulations
  We
purchase natural gas from natural gas wholesalers, which are state-owned
enterprises and which must comply with PRC natural gas pricing regulations. The
wholesale price of natural gas payable by distribution companies, such as
Beijing Gas, to the suppliers of natural gas is comprised of three components,
the wellhead price, the pipeline transportation tariff and the purification fee.
The wellhead price is fixed by NDRC, and is currently set at $0.12 per cubic
meter with a 10% allowance for upward or downward adjustments for negotiation
between suppliers and distribution companies. The pipeline transmission tariffs
are determined by reference to the investment costs of the relevant long
distance pipeline, depreciation, wear and tear and the distance of delivery. The
purification fee is based on the actual purification costs of the suppliers.
Both the pipeline transmission tariffs and the purification fee must also be
approved by the NDRC.
  30
  Pricing
of Natural Gas - US$ per cubic meter
  2003
                  
                  
                  2004
                  
                  
                  2005
                  
                  
                  2006
                  
                  
                  2007
                  
                  
                  2008
                  
                  
                  2009Wellhead
                  
                  $
                  0.09
                  
                  
                  $
                  0.09
                  
                  
                  $
                  0.08
                  
                  
                  $
                  0.11
                  
                  
                  $
                  0.11
                  
                  
                  $
                  0.12
                  
                  
                  $
                  0.12Pipeline
                  
                  $
                  0.09
                  
                  
                  $
                  0.09
                  
                  
                  $
                  0.09
                  
                  
                  $
                  0.09
                  
                  
                  $
                  0.09
                  
                  
                  $
                  0.09
                  
                  
                  $
                  0.09Purification
                  
                  $
                  0.01
                  
                  
                  $
                  0.01
                  
                  
                  $
                  0.01
                  
                  
                  $
                  0.01
                  
                  
                  $
                  0.01
                  
                  
                  $
                  0.01
                  
                  
                  $
                  0.01Total
                  
                  $
                  0.19
                  
                  
                  $
                  0.19
                  
                  
                  $
                  0.18
                  
                  
                  $
                  0.21
                  
                  
                  $
                  0.21
                  
                  
                  $
                  0.22
                  
                  
                  $
                  0.22
  31
  The price
we charge our residential customers for natural gas is based on the wholesale
price plus cost and a profit margin of 10-15% and must be approved by the local
price bureau.
  Operational
and Construction Permits
  In the
PRC, companies in the gas distribution business must also obtain an operational
permit from the local municipal government to begin operation. In addition, a
construction permit must be obtained if such gas distribution company also
engages in construction. In both cases, the local municipal government will
review the qualifications and experience of the management and technical staff
of the distribution company and consider whether the distribution company is
capable of fulfilling the operational and construction standards.
  As of
March 25, 2010, Beijing Gas and most of our project companies and branch offices
have the necessary operational permits.. We believe failure to obtain such
permits in time for those projects will not have a materially adverse effect on
our operations.
  Safety
Regulations
  As a
natural gas distributor, Beijing Gas is regulated by the Administrative Rules on
the City Gas Safety jointly promulgated by the PRC Ministry of Construction,
standards set by Standard Bureau and Fire Safety Bureau of PRC Ministry of
Public Security effective in May 1991.  According to such rules, the
manufacture, storage, transportation, operation, usage of city gas, design and
construction of gas-related projects, and the manufacture of gas-related
facilities shall be subject to relevant safety requirements and qualifications.
Fuel service station standards are subject to regulation by the PRC’s Ministry
of Construction, General Administration of Quality Supervision, and Bureau of
Inspection and Quarantine. Required certificates are issued upon satisfactory
inspection of service stations. In addition, there are various standards that
must be met for filling stations, including handling and storage of gas, tanker
handling, and compressor operation. These standards are regulated by local
construction and gas operations regulating authorities. Inspections are carried
out and certificates for the handling of dangerous agents are issued by relevant
local authorities. As of March 25, 2009, most of our project companies have
received such certificates. There are three project companies that are still in
the process of obtaining such certificates. We believe failure to obtain such
certificates in time for those projects will not have a materially adverse
effect on our operations.
  32
  Environmental
Assessment
  Under
China’s Environmental Regulations, each of our project location should obtain an
environmental assessment report which asses the environmental impact of the
operations of the project. The report must be approved by the relevant
authorities. As of March 25, 2010, most of our project companies have obtained
such reports. We are still in process of obtaining such reports for two project
companies. We believe failure to obtain such reports in time for those projects
will not have a materially adverse effect on our operations.
  Income
Taxes
  Pursuant
to the tax laws of PRC, general enterprises are subject to income tax at an
effective rate of 33%. Beijing Gas is in the natural gas industry, whose
development is encouraged by the government. However, PRC income tax regulations
provide that any company operating in the natural gas industry enjoys a
favorable tax rate. In addition, Beijing Gas has been approved as a high
technology company and as such has been enjoying preferential income tax
treatment under the PRC’s income tax policies. Under these policies, Beijing Gas
was exempt from corporate income taxes for the first two years commencing from
its first profitable year, and thereafter will be entitled to a 50% tax
reduction for the succeeding three years. Our first profitable tax year was
2003. Accordingly, our income is subject to a reduced tax rate of 7.5% from 2005
to 2007. Effective January 1, 2008, the PRC government implemented a new 25% tax
rate for all enterprises regardless of whether the enterprise is domestic or
foreign.  However, the PRC government has established a set of
transition rules to allow enterprises that had already began to enjoy tax
exemptions prior to January 1, 2008 to continue enjoying the tax exemptions
until fully utilized. The subsidiaries of Beijing Gas are subject to the
effective rate of 15% - 25%. A majority of income is earned by Beijing
Gas.
  Foreign
Currency Control
  Under
certain regulations in the form of public notices issued by the PRC State
Administration of Foreign Exchange, or SAFE, our shareholders who are PRC
resident entities or individuals are subject to certain registration
requirements due to the status of GAS (BVI) and Sino Gas under Chinese law as
offshore special purpose companies, or SPCs. These regulations would prohibit
Beijing Gas from distributing dividends or profits to GAS (BVI) and/or Sino Gas
as SPCs unless we comply with the registration requirements set forth by SAFE.
As of the date hereof, Mr. Liu Yu Chuan, our President, Chief Executive Officer
and Chairman of the Board, has completed the registration with the SAFE and has
been issued a SAFE certificate in August 2006. We are in the process of
determining whether there are additional shareholders who are subject to the
SAFE regulations and whose compliance status will have a material effect on
our ability to remit any of our profits out of the PRC as dividends or
otherwise.
  33
  Employees
  As of
March 25, 2010, we had approximately 531 full-time employees, including
approximately 63 management personnel, 55 technicians, 42 engineers and 17
research and development personnel. One employee holds a doctorate degree, 6
employees hold a master’s degree, and 172 employees hold a bachelor’s
degree.
  As
required by applicable Chinese law, we have entered into employment
contracts with all of our employees. We have also entered into a confidentiality
agreement with all of our employees under which such employees are prohibited
from disclosing confidential information of the Company or using it for other
purposes than the benefit of the Company. Directors, officers, mid-level
managers and some key employees in sales and R&D are required to sign a
non-compete agreement which prohibits them from competing with the Company while
they are employees of the Company and not working for a competitor within one
year of termination and working in the industry for two years after their
employment with the Company is terminated.
  Our
employees in China participate in a state
pension arrangement organized by Chinese municipal and provincial
governments. We are required to contribute to the arrangement at the
rate of 20% of the average monthly salary. In addition, we are required by
Chinese law to cover employees in China with other types of social insurances.
Our total contribution may amount to 30% of the average monthly salary. We have
purchased social insurances for all of our employees. The social insurance we
paid in 2009 and 2008 is shown below:
  At and for the year ended
                    December 31,2009
                  
                  
                  2008(in $)
                  
                  
                  (in $)Amount of social insurance
                  
                  
                  350,860
                  
                  
                  
                  212,327
  Item
1A. Risk Factors
  An
investment in our common stock is speculative and involves a high degree of
risk. You should carefully consider the risks described below and the other
information in this report before purchasing any shares of our common stock. The
risks and uncertainties described below are not the only ones facing us.
Additional risks and uncertainties may also adversely impair our business
operations. If any of the events described in the risk factors below actually
occur, our business, financial condition or results of operations could suffer
significantly. In such case, the value of your investment could decline and you
may lose all or part of the money you paid to buy the shares of common
stock.
  34
  Risks Related to Our
Business
  Disruptions
in the capital and credit markets related to the current national and worldwide
financial crisis, which may continue indefinitely or intensify, could adversely
affect our results of operations, cash flows and financial condition, or those
of our customers and suppliers.
  The
current disruptions in the capital and credit markets may continue indefinitely
or intensify, and adversely impact our results of operations, cash flows and
financial condition, or those of our customers and suppliers. Disruptions in the
capital and credit markets as a result of uncertainty, changing or increased
regulation, reduced alternatives or failures of significant financial
institutions could adversely affect our access to liquidity needed to conduct or
expand our businesses or conduct acquisitions or make other discretionary
investments, as well as our ability to effectively hedge our currency or
interest rate. Such disruptions may also adversely impact the capital needs of
our customers and suppliers, which, in turn, could adversely affect our results
of operations, cash flows and financial condition.
  We
are dependent on supplies of natural gas to deliver to our
customers.
  The basic
business model of our business is to purchase natural gas from our suppliers,
and sell such natural gas to our industrial and residential customers for a
profit.
  As we do
not own natural gas reserves, we depend on natural gas supply from a small
number of suppliers. While we typically enter into multiple-year gas supply
contracts with our suppliers, the supply contracts are subject to review every
twelve months. If key terms of these supply contracts are changed after the
annual review, or if our suppliers breach any of the key terms of the supply
contracts, we will not be able to deliver the natural gas to our customers.
While we have not experienced any shortage of supply in the past, we cannot
assure you that natural gas will continue to be available to us. In the event
that our current suppliers are unable to provide us with the natural gas we
require, we may be unable to find alternative sources, or find alternative
sources at reasonable prices. In such an event, our business and financial
results would be materially and adversely affected.
  If
it were determined that our spin-off of Pegasus Tel, Inc. in August 2008
violated federal or state securities laws, we could incur monetary damages,
fines or other damages which could have a material, adverse effect on our cash
flow, financial condition and prospects.
  We may
have inadvertently violated the federal and state securities laws in connection
with our spin-off of Pegasus Tel., Inc. (“Pegasus”) to our stockholders in
August 2008.  As we previously reported, on August 18, 2008, we
consummated a spin-off of Pegasus, a Delaware corporation and a wholly-owned
subsidiary of Sino Gas, to Sino Gas’ stockholders of record as of August 15,
2008 (“Spin-off”).  In connection with the Spin-off, on May 7, 2007,
Sino Gas caused Pegasus to file a Registration Statement on Form 10-SB (File
No.: 0-52628) with the SEC to register the Pegasus common stock under Section
12(g) of the Securities Exchange Act of 1934 and, on November 28, 2007, Sino Gas
filed with the SEC an Information Statement on Schedule 14C to inform
shareholders of record that it was effecting the Spin-off.  The ratio
of distribution of the Spin-off was one (1) share of common stock of Pegasus for
every twelve (12) shares of  common stock of Sino Gas
(1:12).  Fractional shares were rounded up to the nearest
whole-number.  An aggregate of 2,215,136 shares of Pegasus common
stock were issued pursuant to the Spin-off to an aggregate of 167 Sino Gas
stockholders.
  35
  In the
course of its review of our Registration Statement on Form
S-1,   the staff of the SEC provided comments requesting further
information about the Spin-off and indicated its concern that the Pegasus Shares
may have been issued without proper registration or an available exemption from
registration. Under Staff Legal Bulletin No. 4 (“SLB 4”) promulgated by the
Division of Corporation Finance (the “Division”) of the Securities and Exchange
Commission (the “SEC”), the Division expressed its view that the shares of a
subsidiary spun off from a reporting company are not required to be registered
under the Securities Act of 1933, as amended (the “Securities Act”) when the
following five conditions are met: (i) the parent shareholders do not provide
consideration for the spun-off shares; (ii) the spin-off is pro-rata to the
parent shareholders; (iii) the parent provides adequate information about the
spin-off and the subsidiary to its shareholders and to the trading markets; (iv)
the parent has a valid business purpose for the spin-off; and (iv) if the parent
spins-off "restricted securities," it has held those securities for at least two
years.
  If it
were determined that the Spin-off did not satisfy the conditions for an
exemption from registration, it would mean that the issuance of the Pegasus
Shares violated Section 5 of the Securities Act and potentially the state
securities laws of the U.S. states in which the holders of record for the
Spin-off resided.  The consequences of such a finding could be the
imposition by the SEC and relevant state regulators of monetary fines or other
sanctions as provided under relevant federal and state securities
laws.  Such regulators could also require us to make a rescission
offer, which is an offer to repurchase the securities, to the holders of Pegasus
Shares.
  A finding
that the issuance of the Pegasus Shares was in violation of federal or state
securities law could also give certain current and former holders of the Pegasus
Shares a private right of action to seek a rescission remedy under Section
12(a)(2) of the Securities Act.  In general , this remedy allows a
successful claimant to sell its shares back to the parent company in return for
their original investment.
  We are
unable to quantify the extent of any monetary damages that we might incur if,
monetary fines were imposed, rescission were required or one or more other
claims were successful.  However, we can give no assurance that the
damages resulting from any such action or claims will not have a material,
adverse effect on our cash flow, financial condition and
prospects.  As of the date of this report, we are not aware of any
pending or threatened claims that the Spin-Off violated any federal or state
securities laws.
  Based
upon facts known to us at this time, we do not believe that assertion of such
claims by any of our current or former holders of the Pegasus Shares is
probable.  However, there can be no assurance that any such claim will
not be asserted in the future or that the claimant in any such action will not
prevail.  The possibility that such claims may be asserted in the
future will continue until the expiration of the applicable federal and state
statutes of limitations, which generally vary from one to three years from the
date of sale.  Claims under the anti-fraud provisions of the federal
securities laws, if relevant, would generally have to be brought within two
years of discovery, but not more than five years after occurrence.
  36
  The
price of natural gas is subject to uncertain government regulations and market
conditions.
  The price
of natural gas is subject to uncertain government regulations and market
conditions in the PRC which are subject to change or fluctuations. While our
costs for natural gas are subject to control by the PRC government and we
have not experienced any significant price fluctuations over the past few years,
we can not assure you that the price of natural gas will not vary significantly
in the future. Numerous factors, most of which are beyond our control, drive the
price and supply of natural gas. Some of these factors are: general
international and domestic political and economic conditions, wars, OPEC
actions, industry capacity utilization and government regulations. The war in
Iraq and uncertain international political conditions could drive the price of
natural gas upwards, thus reducing our profit margins in selling the natural gas
to our customers. Any production restrictions imposed by OPEC on crude oil and
natural gas could also reduce the inventory of the natural gas and drive the
price upwards, reducing our profits. The price at which we sell to customers
will be subject to approval by the Chinese government and is thus heavily
regulated. Although in the past three years there were no significant changes in
regulations, we cannot assure you this will be the case in the future. Any
change in PRC governmental regulations such as labor law regarding the minimum
wage could materially and adversely affect our profits.
  Our
success depends on our ability to identify and develop operational locations and
negotiate and enter into favorable franchise agreements with local
governments at the operation locations.
  Our
success depends on our ability to identify new operational locations in
small-and -medium-sized cities in China and negotiate and enter into favorable
franchise agreements with local governments that grant us long-term exclusive
right to develop the natural gas distribution network and supply natural gas in
the operational location. Our failure to identify and develop new operational
locations and obtain the exclusive rights to be the developer of natural gas
distribution networks and distribute natural gas in such operational locations
would curb our revenue growth and may adversely impact our financial condition
and operating results.
  Our
success depends on our ability to obtain large industrial supply contracts and
master residential supply contracts with large quantity of end
users.
  Our
success depends on our ability to obtain large industrial supply contracts and
master residential supply contracts with a large quantity of end users. Our
failure to obtain large industrial supply contracts and master residential
supply contracts with a large quantity of end users will adversely affect our
ability to generate revenue and our growth potential and may adversely impact
our financial condition and operating results.
  37
  Our
inability to fund our capital expenditure requirements may adversely affect our
growth and profitability.
  Our
business is capital intensive. Our continued growth is dependent upon our
ability to generate more revenue from our existing distribution systems and
raise capital from outside sources. We believe that in order to continue to
capture additional market share, we will have to raise more capital to fund the
construction and installation of the natural gas distribution network for our
customers under existing contracts and for new customers. In order to expand our
operation, we expect that we will need additional financing for acquisition and
expansion in terms of debt financing or equity financing. Our ability to obtain
needed financing at any time may depend on a number of factors, including our
financial condition and results of operations, the condition of the PRC economy
and the natural gas industry in the PRC, and conditions in relevant financial
markets in the United States, the PRC and elsewhere in the world. In the future
we may be unable to obtain the necessary financing on a timely basis and on
acceptable terms, and our failure to do so may adversely affect our financial
position, competitive position, growth and profitability.
  We
may not be able to effectively control and manage our growth.
  From
August 2003 to March  2010, we have entered into 29 franchise
agreements to provide natural gas to certain newly developed residential
communities, and we expect that we will secure more of such franchise agreements
in the years to come.
  If our
business and markets grow and develop, it will be necessary for us to finance
and manage expansion in an orderly fashion. In addition, we may face challenges
in managing expanding natural gas distribution network and service offerings and
in integrating acquired businesses with our own. Our business expansion has
resulted, and will continue to result, in substantial demands on our management,
operational, technological and other resources. To manage and support our
growth, we must improve our existing operational, administrative and
technological systems and our financial and management controls, and recruit,
train and retain additional qualified technical and management personnel as well
as other administrative and sales and marketing personnel, particularly as we
expand into new markets. We cannot assure you that we will be able to
effectively and efficiently manage the growth of our operations, recruit and
retain qualified technical and management personnel and integrate new
communities into our operations. Any failure to effectively and efficiently
manage our expansion may materially and adversely affect our ability to
capitalize on new business opportunities, which in turn may have a material
adverse impact on our financial condition and results of
operations.
  38





The
nature of our natural gas operations is highly risky and we may be subject to
civil liabilities as a result of our business of gas operations.





Our
natural gas operations are subject to potential hazardous accidents to the
gathering, processing, separation, storage and delivery of natural gas, such as
pipeline ruptures, explosions, product spills, leaks, emissions and fires. These
potential hazardous accidents can cause personal injury and loss of life, severe
damage to and destruction of property and equipment, and pollution or other
environmental damage, and may result in suspension or shutting down of
operations at the affected facilities of residential areas. Consequently, we may
face civil liabilities in the ordinary course of our business. These liabilities
may result in us being required to make indemnification payments in accordance
with the applicable contracts and regulations. At present, we do not carry any
insurance to cover such liabilities in the ordinary course of our business.
Although we have not faced any civil liabilities in the past since we started
the current line of business in the ordinary course of our natural gas
operations, there is no assurance that we will not face such liabilities in the
future. If such liabilities occur in the future, they may adversely and
materially affect our operations and financial condition.





Changes
in the regulatory environment could adversely affect our business.





The
distribution of natural gas to industrial and residential customers and
operation of filling stations are highly regulated in the PRC requiring
registrations with the government for the issuance of licenses required by
various governing authorities in the PRC. For example, to operate in our line of
business, we are required to obtain and maintain licenses such as the Natural
Gas Business License and the franchise Business License. In addition, there are
various standards that must be met for filling stations including handling and
storage of natural gas, tanker handling, and compressor operation which are
regulated by the government. The costs of complying with regulations may
increase which may in turn harm our business. Furthermore, future changes in
environmental laws and regulations in the PRC could occur that could result in
stricter standards and enforcement, larger fines and liability, and increased
capital expenditure requirement and operating costs, any of which could have a
material adverse effect on our financial condition or results of operations.





We
may not be able to effectively protect our proprietary technology, which could
harm our business and competitive position.




Our
success depends, in part, on our ability to protect our proprietary
technologies. At present, we use an unpatented proprietary natural gas
compression process that allows us to effectively and economically compress
natural gas and distribute it. This process was developed by us based on a
patented technology co-owned by our Chairman and Chief Executive Officer, Mr.
Yu-Chuan Liu, and another individual who is not associated with our company. We
cannot assure you that we are, and will be able to effectively protect our
technology, and our current or potential competitors do not have, and will not
obtain or develop similar compression process, the occurrence of either of which
could harm our business and competitive position.




Implementation
of PRC intellectual property-related laws has historically been lacking,
primarily because of ambiguities in the PRC laws and difficulties in
enforcement. Accordingly, intellectual property rights and confidentiality
protections in the PRC may not be as effective as in the United States or other
developed countries. Policing unauthorized use of proprietary technology is
difficult and expensive, and we might need to resort to litigation to enforce
our rights or defend us, or to determine the enforceability, scope and validity
of our proprietary rights or those of others. Such litigation may require
significant expenditure of cash and management efforts and could harm our
business, financial condition and results of operations. An adverse
determination in any such litigation will impair our intellectual property
rights and may harm our business, competitive position, and business
prospects.





39




We
may be exposed to intellectual property infringement and other claims by third
parties, which, if successful, could cause us to pay significant damage awards
and incur other costs.





At
present, we use an unpatented, proprietary natural gas compression process that
allows us to effectively and economically compress natural gas and distribute
it. This process was developed by us based on a patented technology co-owned by
our Chairman and Chief Executive Officer, Mr. Yu-Chuan Liu, and another
individual who is not associated with our company. In developing the process, we
did not obtain and have not obtained authorization from such individual to use
the patented technology. We believe that the technology we use is significantly
improved and distinguished from the original patented technology, and any
infringement claim related to the original patented technology would be unlikely
to succeed. However, we cannot assure you that our assessment is and will be
correct. In addition, as litigation becomes more common in the PRC in resolving
commercial disputes, we face a higher risk of being the subject of intellectual
property infringement claims. The validity and scope of claims relating to
natural gas compression technology and related devices and machines patents
involve complex technical, legal and factual questions and analysis and,
therefore, may be highly uncertain. The defense and prosecution of intellectual
property suits, patent opposition proceedings and related legal and
administrative proceedings can be both costly and time consuming and may
significantly divert the efforts and resources of our technical and management
personnel. An adverse determination in any such litigation or proceedings to
which we may become a party could subject us to significant liability, including
damage awards to third parties, court orders requiring us to seek licenses from
third parties, to pay ongoing royalties, or to redesign our products or subject
us to injunctions preventing us from providing gas services to our customers as
required by various contracts we entered. Protracted litigation could also
result in our customers or potential customers deferring or limiting their
purchase or use of our products until resolution of such
litigation.





Our limited operating history may
not serve as an adequate basis to judge our future prospects and results of
operations.





We have a
limited operating history. We commenced our current line of business of offering
natural gas to customers in certain cities in China in 2003. Our limited
operating history may not provide a meaningful basis on which to evaluate our
business. Although our revenues and profits have grown since we started our
current business, we cannot assure you that we will maintain our profitability
or that we will not incur net losses in the future. We will continue to
encounter risks and difficulties frequently experienced by companies at a
similar stage of development, including our potential failure to:


·
              raise adequate capital for
      expansion and operations;
 
 ·
              implement our business model and
      strategy and adapt and modify them as
  needed;
 
 ·
              increase awareness of our brands,
      protect our reputation and develop customer
  loyalty;
  40
  ·
              manage our expanding operations
      and service offerings, including the integration of any future
      acquisitions;
 
 ·
              maintain adequate control of our
      expenses; and
 
 ·
              anticipate and adapt to changing
      conditions in the natural gas utility market in which we operate as well
      as the impact of any changes in government regulations, mergers and
      acquisitions involving our competitors, technological developments and
      other significant competitive and market
  dynamics.




If we are
not successful in addressing any or all of these risks, our business may be
materially and adversely affected.





We
do not have key man insurance on our Chairman and CEO, Mr. Liu, on whom we rely
for the management of our business.





We
depend, to a large extent, on the abilities and participation of our current
management team, but have a particular reliance upon Mr. Yu Chuan Liu. The loss
of the services of Mr. Liu, for any reason, may have a material adverse effect
on our business and prospects. We cannot assure you that the services of Mr. Liu
will continue to be available to us, or that we will be able to find a suitable
replacement for Mr. Liu. We do not carry key man life insurance for any key
personnel.




In
addition, our future success also depends upon the continuing services of the
other members of our senior management team, including our Marketing Director,
Zhi Min Zhong; our Vice President and Chief Engineer, Shu Kui Bian; and our
Chief Financial Officer, Yugang Zhang. If one or more of our senior executives
or other key personnel are unable or unwilling to continue in their present
positions, we may not be able to replace them easily or at all, and our business
may be disrupted and our financial condition and results of operations may be
materially and adversely affected. Competition for senior management and senior
technology personnel in our line of business is intense in China, the pool of
qualified candidates is very limited, and we may not be able to retain the
services of our senior executives or senior technology personnel, or attract and
retain high-quality senior executives or senior technology personnel in the
future. Such failure could materially and adversely affect our future growth and
financial condition.





41






We
do not presently maintain product liability insurance, and our property
equipment insurance does not cover their full value, which leaves us with
exposure in the event of loss or damage to our properties or claims filed
against us.





We
currently do not carry any product liability or other similar insurance. While
product liability lawsuits in the PRC are not common and we have never
experienced significant failures of our products, we cannot assure you that we
would not face such liability in the event of the failure of any of our
products. We –only carry -basic property insurance to cover our real property,
natural gas pipelines, storage facilities and equipment. However, we do not have
other insurance such as business liability or disruption insurance coverage for
our operations in the PRC.





We
do not maintain a reserve fund for warranty or defective equipment claims. Our
costs could substantially increase if we experience a significant number of
warranty claims.





Currently,
we provide one year service warranty for the end user equipment, such as gas
indoor pipes and gas meters to our customers after we have installed the gas
distribution systems and commenced gas supply for them. The warranties require
us to repair and replace defective components. Since we started our current line
of business, we have received a very limited number of warranty claims for our
productsthat only
involved minor repairs and whose costs were negligible (around $250 in total).
Consequently, the costs associated with our warranty claims have historically
been very low. Therefore, we have not established any reserve funds for
potential warranty claims. However, if we experience any increase in warranty
claims or if our repair and replacement costs associated with warranty claims
increase significantly, it would have a material adverse effect on our financial
condition and results of operations.





Risks Related to Doing
Business in the PRC.





We
face the risk that changes in the policies of the PRC government could have a
significant impact upon the business we may be able to conduct in the PRC and
the profitability of such business.





All of
our business operations are conducted in China. Accordingly, our business,
financial condition, results of operations and prospects are affected
significantly by economic, political and legal developments in China. The
Chinese economy differs from the economies of most developed countries in many
respects, including level of government involvement in economic activities,
stage of national development, and control of foreign exchange.





While the
Chinese economy has grown significantly in the past 20 years, the growth has
been uneven, both geographically and among various sectors of the
economy.





42






The PRC’s
economy is in a transition from a planned economy to a market oriented economy
subject to five-year and annual plans adopted by the government that set
national economic development goals. Policies of the PRC government can have
significant effects on the economic conditions of the PRC. The PRC government
has confirmed that economic development will follow the model of a market
economy. Under this direction, we believe that the PRC will continue to
strengthen its economic and trading relationships with foreign countries and
business development in the PRC will follow market forces. While we believe that
this trend will continue, we cannot assure you that this will be the case. A
change in policies by the PRC government could adversely affect our interests
by, among other factors: changes in laws, regulations or the interpretation of
laws and regulations, confiscatory taxation, restrictions on currency
conversion, imports or sources of supplies, or the expropriation or
nationalization of private enterprises. Although the PRC government has been
pursuing economic reform policies for more than two decades, we cannot assure
you that the government will continue to pursue such policies or that such
policies may not be significantly changed, especially in the event of a change
in leadership, social or political disruption, or other circumstances affecting
the PRC’s
political, economic and social life.





The
PRC laws and regulations governing our current business operations are sometimes
vague and uncertain. Any changes in such PRC laws and regulations may have a
material and adverse effect on our business.





We
conduct substantially all of our business through our subsidiary, Beijing Gas,
established in China. Beijing Gas is generally subject to laws and regulations
applicable to foreign investment in China and, in particular, laws applicable to
wholly foreign-owned enterprises. The PRC legal system is based on written
statutes. Prior court decisions may be cited for reference but have limited
precedential value. There are substantial uncertainties regarding the
interpretation and application of PRC laws and regulations, including but not
limited to the laws and regulations governing our business, or the enforcement
and performance of our arrangements with customers in the event of the
imposition of new laws or regulations, or new interpretation of existing laws
and regulations. Beijing Gas and any future PRC subsidiaries are considered
foreign invested enterprises under PRC laws, and as a result, we are required to
comply with PRC laws and regulations governing foreign invested enterprises.
These laws and regulations are sometimes vague and may be subject to future
changes, and their official interpretation and enforcement may involve
substantial uncertainty. New laws and regulations that affect existing and
proposed future businesses may also be applied retroactively. We cannot predict
what effect the interpretation of existing or new PRC laws or regulations may
have on our businesses.





A
slowdown or other adverse developments in the PRC economy may materially and
adversely affect our customers, demand for our services and our
business.





We are a
holding company. All of our operations are conducted in the PRC and all of our
revenues are generated from sales in the PRC. Although the PRC economy has grown
significantly in recent years, we cannot assure you that such growth will
continue. The use of natural gas for commercial and residential consumption in
the PRC is relatively new and growing, but we do not know how sensitive we are
to a slowdown in economic growth or other adverse changes in the PRC economy
which may affect demand for natural gas. A slowdown in overall economic growth,
an economic downturn or recession or other adverse economic developments in the
PRC may materially reduce the demand for natural gas and materially and
adversely affect our business.





43






Inflation
in the PRC could negatively affect our profitability and growth.





While the
PRC economy has experienced rapid growth in recent years, such growth has been
uneven among various sectors of the economy and in different geographical areas
of the country. Rapid economic growth can lead to growth in the money supply and
rising inflation. If prices for our products and services rise at a rate that is
insufficient to compensate for the rise in the costs of supplies, it may have an
adverse effect on profitability. In order to control inflation in the past, the
PRC government has imposed controls on bank credits, limits on loans for fixed
assets and restrictions on state bank lending. Such an austerity policy can lead
to a slowing of economic growth. In October 2004, the People’s Bank of China,
the PRC’s central bank, raised interest rates for the first time in nearly a
decade and indicated in a statement that the measure was prompted by
inflationary concerns in the Chinese economy. In 2007, the People’s Bank of
China raised the interest rates again. Repeated rises in interest rates by the
central bank would likely slow economic activity in China which could, in turn,
materially increase our costs and also reduce demand for our products and
services.





Beijing
Gas is subject to restrictions on paying dividends and making other payments to
us.





We are a
holding company incorporated in the State of Utah and do not have any assets or
conduct any business operations other than our investments in our subsidiaries.
As a result of our holding company structure, we rely primarily on dividends
payments from our subsidiary in China. However, PRC regulations currently permit
payment of dividends only out of retained earnings, as determined in accordance
with PRC accounting standards and regulations. The “retained earning” has the
same meaning under both US GAAP and PRC accounting standards in general, except
that under PRC regulations, minimum 10% of net profit after tax has to be set
aside as the reserve fund. The upper limit of the reserve fund is 50% of the
total registered capital of the Company. Only after such set-aside reserve fund
is satisfied, can dividends be paid out of retained earnings. Thus, the impact
of such set-aside reserve fund on the Company is the restriction upon the
Company’s ability to pay dividends to shareholders. For the most recently
completed fiscal year, we have satisfied the set-aside reserve fund requirement
and dividends could have been paid out of retained earnings. However, this year,
we do not have plans to distribute dividends. Our subsidiary and affiliated
entity in China are also required to set aside a 10% of their after-tax profits
according to PRC accounting standards and regulations to fund certain reserve
funds. The PRC government also imposes controls on the conversion of RMB
(Chinese currency Renminbi) into foreign currencies and the remittance of
currencies out of China. We may experience difficulties in completing the
administrative procedures necessary to obtain and remit foreign currency. See
“Government control of
currency conversion may affect the value of your investment.”
Furthermore, if our subsidiary or affiliated entity in China incurs debt on
their own in the future, the instruments governing the debt may restrict their
ability to pay dividends or make other payments. If we or our subsidiary is
unable to receive the revenues due from our operations, we may be unable to pay
dividends on our common stock. As of now, we have not attempted to distribute
and remit any dividends from our subsidiaries in China and therefore, we have
not experienced restrictions.





Governmental
control of currency conversion may affect the value of your
investment.





The PRC
government imposes controls on the convertibility of Renminbi, the Chinese
currency, into foreign currencies and, in certain cases, the remittance of
currency out of the PRC. We receive substantially all of our revenues in
Renminbi, which is currently not a freely convertible currency. Shortages in the
availability of foreign currency may restrict our ability to remit sufficient
foreign currency to pay dividends, or otherwise satisfy foreign currency
dominated obligations. Under existing PRC foreign exchange regulations, payments
of current account items, including profit distributions, and interest payments,
can be made in foreign currencies without prior approval from the PRC State
Administration of Foreign Exchange by complying with certain procedural
requirements. However, approval from appropriate governmental authorities is
required where Renminbi is to be converted into foreign currency and remitted
out of the PRC to pay capital expenses such as the repayment of bank loans
denominated in foreign currencies.





44






The PRC
government may also at its discretion restrict access in the future to foreign
currencies for current account transactions. If the foreign exchange control
system prevents us from obtaining sufficient foreign currency to satisfy our
currency demands, we may not be able to pay certain of our expenses as they come
due.





The
fluctuation of the Renminbi may materially and adversely affect your
investment.





The value
of the Renminbi (“RMB”) against the U.S. dollar and other currencies may
fluctuate and is affected by, among other things, changes in the PRC’s political and
economic conditions. As we rely entirely on revenues earned in the PRC, any
significant revaluation of the RMB may materially and adversely affect our cash
flows, revenues and financial condition. For example, to the extent that we need
to convert U.S. dollars we receive from an offering of our securities into RMB
for our operations, appreciation of the RMB against the U.S. dollar could have a
material adverse effect on our business, financial condition and results of
operations. Conversely, if we decide to convert our RMB into U.S. dollars for
the purpose of making payments for dividends on our common stock or for other
business purposes and the U.S. dollar appreciates against the RMB, the U.S.
dollar equivalent of the RMB we convert would be reduced. In addition, the
depreciation of significant U.S. dollar denominated assets could result in a
charge to our income statement and a reduction in the value of these
assets.





On July
21, 2005, the PRC government changed its decade-old policy of pegging the value
of the RMB to the U.S. dollar. Under the new policy, the RMB is permitted to
fluctuate within a narrow and managed band against a basket of certain foreign
currencies. This change in policy has resulted in an approximately 21%
appreciation of the RMB against the U.S. dollar between July 21, 2005 and March
25, 2010. While the international reaction to the RMB revaluation has generally
been positive, there remains significant international pressure on the PRC
government to adopt an even more flexible currency policy, which could result in
a further and more significant appreciation of the RMB against the U.S.
dollar.





The
discontinuation of any preferential tax treatment currently available to us and
the increase in the enterprise income tax in the PRC could in each case result
in a decrease of our net income and materially and adversely affect our results
of operations.





The PRC
government has provided various incentives to foreign-invested enterprises and
domestic companies operating in a national level economic and technological
development zone, including reduced tax rates and other measures. For example,
Beijing Gas, which is registered and operating in a high-tech zone in Beijing,
has been qualified as a “high or new technology enterprise.” As a result, it is
entitled to a preferential enterprise income tax rate of 15.0% so long as it
continues to operate in the high-tech zone and maintains its “high or new
technology enterprise” status. Beijing Gas received a two-year exemption from
the enterprise income tax for its first two profitable years of operation, which
were 2003 and 2004. Beijing Gas was thereafter entitled to a preferential
enterprise income tax rate of 7.5% for the succeeding three years (with an
exceptional tax rate of 9.0% for 2005), which expired on December 31, 2007.
However, we cannot assure you that the current preferential tax treatments and
the current level of the enterprise income tax enjoyed by our PRC operating
subsidiary will continue, and any legislative changes to the tax regime could
discontinue any preferential tax treatment and increase the enterprise income
tax rate applicable to our principal subsidiaries in the PRC.





45






Specifically,
the PRC Enterprise Income Tax Law, or the EIT Law, was enacted on March 16,
2007. Under the EIT Law, effective on January 1, 2008, China adopted a uniform
tax rate of 25.0% for all enterprises (including foreign-invested enterprises)
and revoke the current tax exemption, reduction and preferential treatments
applicable to foreign-invested enterprises. However, the current preferential
tax rate of 15.0% applicable to high and new technology enterprises and the
current preferential tax treatments for all enterprises (including
foreign-invested enterprises) will be grandfathered for a period of five years
following the effective date of the EIT Law until January 1, 2013. The EIT Law
applies to all of our PRC operating subsidiaries, including Beijing Gas, which
is currently both a high and new technology enterprise and a foreign-invested
enterprise. Any future increase in the enterprise income tax rate applicable to
our PRC operating subsidiaries or other adverse tax treatments, such as the
discontinuation of preferential tax treatments, would have a material adverse
effect on our results of operations and financial condition.





Dividends
payable by us to our foreign investors may become subject to withholding taxes
under PRC tax laws.





Under the
EIT Law, dividends payable to foreign investors which are “derived from sources
within the PRC” may be subject to income tax at the rate of 20% by way of
withholding. Since we are a holding company and substantially all of our income
will come from dividends that we receive from our PRC subsidiaries, dividends
that we declare from such income may be deemed “derived from sources within the
PRC” for purposes of the EIT Law and therefore subject to a 20% withholding tax.
While the EIT Law stipulates that such taxes may be exempted or reduced, since
no rules or guidance concerning the new tax law have been issued yet, it is
unclear under what circumstances, and to what extent, such tax would be exempted
or reduced. One example of a limitation on the 20% withholding tax is the way in
which, pursuant to a treaty for the avoidance of double taxation, income tax
levied by the PRC authorities on U.S. investors may not exceed 10% of the gross
amount of the dividends, provided that we are deemed to be a PRC resident
enterprise under the new tax law. If we are required under the EIT Law to
withhold PRC income tax on our dividends payable to our foreign shareholders,
the value of your investment in our common stock may be materially and adversely
affected.





Gains
on the sales of our shares may become subject to PRC income taxes.





Under the
EIT Law, our foreign corporate shareholders may be subject to a 20% income tax
upon any gains they realize from the transfer of their shares, if such income is
regarded as income from “sources within the PRC.” What will constitute “sources
within the PRC” and whether or not there will be any exemption or reduction in
taxation for our foreign corporate investors, however, are unclear since no
rules or guidance concerning the new tax law has been issued yet. If our foreign
shareholders are required to pay PRC income tax on the transfers of their
shares, the value of your investment in our common stock may be materially and
adversely affected.





46





Recent
PRC State Administration of Foreign Exchange (“SAFE”) Regulations regarding
offshore financing activities by PRC residents, have undertaken continuous
changes which may increase the administrative burden we face and create
regulatory uncertainties that could adversely affect the implementation of our
acquisition strategy, and a failure by our shareholders who are PRC residents to
make any required applications and filings pursuant to such regulations may
prevent us from being able to distribute profits and could expose us and our PRC
resident shareholders to liability under PRC law.





Recent
regulations promulgated by the PRC State Administration of Foreign Exchange, or
SAFE, regarding offshore financing activities by PRC residents have undergone a
number of changes which may increase the administrative burden we
face.





In
October 2005, SAFE promulgated regulations in the form of public notices, which
require registrations with, and approval from, SAFE on direct or indirect
offshore investment activities by PRC resident individuals. The SAFE regulations
require that if an offshore company directly or indirectly formed by or
controlled by PRC resident individuals, known as “SPC”, intends to acquire a PRC
company, such acquisition will be subject to strict examination by the SAFE.
Without registration, the PRC entity cannot remit any of its profits out of the
PRC as dividends or otherwise. Gas (BVI) is deemed a SPC under these SAFE
regulations. As such, our shareholders who are PRC residents, must comply with
the registration and disclosure requirements provided under the SAFE
regulations. Mr. Yu Chuan Liu, our Chairman and Chief Executive Officer, has
completed the registration with the SAFE and has been issued a SAFE certificate
was issued by SAFE to Beijing Gas in August 2006. We have determined that there
are about a dozen of additional shareholders who are subject to the SAFE
regulations and whose compliance status will have a material effect on our
ability to remit any of our profits out of the PRC as dividends or otherwise. In
addition, we have agreed with the Investors of this round of financing that
within ninety (90) days of the closing such additional shareholders will file
registration with SAFE, and obtain SAFE certificates.The failure by our
shareholders who are PRC residents to make any required applications and filings
pursuant to such regulations may prevent us from being able to distribute
profits and could expose us and our PRC resident shareholders to liability under
PRC law.




Any
recurrence of severe acute respiratory syndrome, or SARS, or another widespread
public health problem, could adversely affect our operations.





In 2002,
a breakout of SARS in China and other parts of Asia resulted in major
disruptions to the economy of China and Asia. A renewed outbreak of SARS or
another widespread public health problem in the PRC, where all of the Company’s
revenue is derived, could have an adverse effect on our operations. Our
operations may be impacted by a number of health-related factors, including
quarantines or closures of some of our offices that would adversely disrupt our
operations.





47





Any of
the foregoing events or other unforeseen consequences of public health problems
could adversely affect our operations.





Because
our principal assets are located outside of the United States and nearly all of
our directors and all our officers reside outside of the United States, it may
be difficult for you to enforce your rights based on U.S. Federal Securities
Laws against us and our officers and some directors in the U.S. or to enforce
U.S. Court Judgment against us or the directors or officers in the
PRC.





All of
our five directorsand
all of our officers reside outside of the United States. In addition, our
operating subsidiaries are located in the PRC and substantially all of our
assets are located outside of the United States. It may therefore be difficult
for investors in the United States to enforce their legal rights based on the
civil liability provisions of the U.S. Federal securities laws against us in the
courts of either the U.S. or the PRC and, even if civil judgments are obtained
in U.S. courts, to enforce such judgments in PRC courts. Further, it is unclear
if extradition treaties now in effect between the United States and the PRC
would permit effective enforcement against us or our officers and directors of
criminal penalties, under the U.S. Federal securities laws or
otherwise.





We
may face obstacles from the communist system in the PRC.





Foreign
companies conducting operations in PRC face significant political, economic and
legal risks. The Communist regime in the PRC, including a cumbersome
bureaucracy, may hinder Western investment.





We
may have difficulty establishing adequate management, legal and financial
controls in the PRC.





The PRC
historically has not adopted a western style of management and financial
reporting concepts and practices, as well as in modern banking, computer and
other control systems. We may have difficulty in hiring and retaining a
sufficient number of qualified employees to work in the PRC. As a result of
these factors, we may experience difficulty in establishing management, legal
and financial controls, collecting financial data and preparing financial
statements, books of account and corporate records and instituting business
practices that meet Western standards.





48





Risks Related to Our Common
Stock.





Our
officers, directors and affiliates control us through their positions and stock
ownership and their interests may differ from other stockholders.





Our
officers, directors and affiliates beneficially own approximately 57.6% of our
Common Stock. Yu chuan Liu, our Chairman, and Chief Executive Officer,
beneficially owns approximately 24.4% and Mr. Quandong Sun, a director,
beneficially owns 20.1%of our Common Stock. As a result, Mr. Liu and Mr. Sun are able to
influence the outcome of stockholder votes on various matters, including the
election of directors and extraordinary corporation transactions including
business combinations. Yet Mr. Liu and Mr. Sun’s interests may differ from other
stockholders. Furthermore, the current ratios of ownership of our common stock
reduce the public float and liquidity of our common stock which can in turn
affect the market price of our common stock. Please refer to “Security Ownership
of Certain Beneficial Owners and Management” of this Registration Statement for
more information regarding beneficial ownership of securities of our
management.




We
are not likely to pay cash dividends in the foreseeable future.





We
currently intend to retain any future earnings for use in the operation and
expansion of our business. We do not expect to pay any cash dividends in the
foreseeable future but will review this policy as circumstances dictate. Should
we decide in the future to do so, as a holding company, our ability to pay
dividends and meet other obligations depends upon the receipt of dividends or
other payments from our operating subsidiary in the PRC. In addition, our
operating subsidiary, from time to time, may be subject to restrictions on its
ability to make distributions to us, including as a result of restrictions on
the conversion of local currency into U.S. dollars or other hard currency and
other regulatory restrictions.





There
is currently a limited trading market for our common stock.





Our
common stock is quoted on the over-the-counter Bulletin Board. However, our bid
and asked quotations have not regularly appeared on the OTC Bulletin Board for
any consistent period of time. There is no established trading market for our
common stock and our common stock may never be included for trading on any stock
exchange or through any other quotation system (including, without limitation,
the NASDAQ Stock Market). You may not be able to sell your shares due to the
absence of a trading market.





Our
Common Stock may be considered to be a “penny stock” and, as such, the market
for our Common Stock may be further limited by certain SEC rules applicable to
penny stocks.





To the
extent the price of our common stock remains below $5.00 per share, we have net
tangible assets of $2,000,000 or less, or if we fall below certain other
thresholds, our common shares will be subject to certain “penny stock” rules
promulgated by the SEC. Those rules impose certain sales practice requirements
on brokers who sell penny stock to persons other than established customers and
accredited investors (generally institutions with assets in excess of $5,000,000
or individuals with net worth in excess of $1,000,000). For transactions covered
by the penny stock rules, the broker must make a special suitability
determination for the purchaser and receive the purchaser’s written consent to
the transaction prior to the sale. Furthermore, the penny stock rules generally
require, among other things, that brokers engaged in secondary trading of penny
stocks provide customers with written disclosure documents, monthly statements
of the market value of penny stocks, disclosure of the bid and asked prices and
disclosure of the compensation to the brokerage firm and disclosure of the sales
person working for the brokerage firm. These rules and regulations adversely
affect the ability of brokers to sell our common shares and limit the liquidity
of our securities.





49





Our
common stock is illiquid and subject to price volatility unrelated to our
operations.





The
market price of our common stock could fluctuate substantially due to a variety
of factors, including market perception of our ability to achieve our planned
growth, quarterly operating results of other companies in the same industry,
trading volume in our common stock, changes in general conditions in the economy
and the financial markets or other developments affecting our competitors or us.
In addition, the stock market is subject to extreme price and volume
fluctuations. This volatility has had a significant effect on the market price
of securities issued by many companies for reasons unrelated to their operating
performance and could have the same effect on our common stock.




You
may face difficulties in protecting your interests, and your ability to protect
your rights through the U.S. federal courts may be limited, we are incorporated
in non-U.S. jurisdictions, we conduct substantially all of our operations in
China, and all of our officers reside outside the United States.





We
conduct substantially all of our operations in China through our wholly owned
subsidiaries in China. All of our officers reside outside the United States and
some or all of the assets of those persons are located outside of the United
States. As a result, it may be difficult or impossible for you to bring an
action against us or against these individuals in China in the event that you
believe that your rights have been infringed under the securities laws or
otherwise. Even if you are successful in bringing an action of this kind, the
laws of the PRC may render you unable to enforce a judgment against our assets
or the assets of our directors and officers. As a result of all of the above,
our public stockholders may have more difficulty in protecting their interests
through actions against our management, directors or major stockholders than
would stockholders of a corporation doing business entirely within the United
States.





A
large number of shares will be eligible for future sale and may depress our
stock price.





We are
required under the Registration Rights Agreement to register for sale by the
investors and certain other parties a total number of 12,681,255 shares of
Common Stock, including 1,771,074 shares of common stock which are issuable upon
(i) exercise of warrants issued to the Placement Agent in the Private Financing,
and (ii) shares of Common Stock issued based on the “Make Good” provisions of
the Stock Purchase Agreement. As these shares are placed on the market for sale,
it will increase the supply of stocks for sale, and therefore depress the
selling price of our stock. On February 11, 2010, our registration statement on
Form S-1, registration no. 333-147998 was declared effective by the SEC,
pursuant to which 5,976,212 shares of our common stock is eligible for sale
through the registration statement.





50





Sales of
substantial amounts of common stock, or a perception that such sales could
occur, and the existence of options or warrants to purchase shares of common
stock at prices that may be below the then current market price of the common
stock, could adversely affect the market price of our common stock and could
impair our ability to raise capital through the sale of our equity
securities.





The
exercise of certain warrants will dilute the investment by current
investors.





Currently
our outstanding warrants include: (i) series A warrants to purchase an aggregate
of 241,708 shares of common stock at $3.84 per share, (ii) series C warrants to
purchase an aggregate of 3,083,588 shares of common stock at $3.375 per share,
(iii) series G warrants to purchase an aggregate of 109,489 shares of common
stock at $3.84 per share, (iv) series F warrants to purchase an aggregate of
271,074 shares of common stock at $4.84 per share, (v) placement agent series R
warrant to purchase an aggregate of 271,074 shares of common stock at $4.84 per
share and (vi) warrants to purchase 3,898,687 shares of common stock
accompanying 8% senior secured convertible notes at $0.744 per share . Under the
existing warrants, a total of 7,875,620 common shares will need to be issued by
us if the warrant holders decide to exercise the warrants. If this happens, the
investment of our current shareholders would be significantly
diluted.





Item 2. Properties





We have
offices at all operational locations. The facilities are added with each new
project or operational location as part of the execution of the
project.





All land
in China is owned by the State. Individuals and companies are permitted to
acquire rights to use land or land use rights for specific purposes. A “land use
right” allows the holder the right to use the land for a specified long-term
period of time and confers to the holder all the incidents of ownership of the
land during that period. In the case of land used for industrial purposes, the
land use rights are generally granted for a period of 50 years. This period may
be renewed at the expiration of the initial and any subsequent terms. Granted
land use rights are transferable and may be used as security for borrowings and
other obligations. We hold land use rights for two parcels of land registered
under their names, and lease land use rights from third parties for additional
parcels of land that are used for its gas distribution projects. In addition, we
lease office buildings and warehouse facilities for our business
operations.




Set forth
below is the detailed information regarding these land use rights registered
under the names of Beijing Gas or its subsidiaries:





51





Registered owner of land
                  use right
                
                Location & certificate of
                  land use right
                
                Usage
                
                (approximate)
                  square meters
                
                Date of
                  Issuance or
                  Grant
                
                Expiration
                  DateBeijing Gas
                
                South side of
                  Huang He
                  Road, Cai
                  Yuan Town,
                  Wu Qiao
                  County
                  
                  Wu Guo Yong
                  (2003) Zi
                  Di Chu No.
                  208
                
                Other
                  commercial
                  use
                
                
                1,520
                
                November 25,
                  2003
                
                November 25,
                  2043Yu Tian Country Zhong Ran
                  Wei Ye Gas Ltd.
                
                Between East
                  side of Yu
                  Zun West
                  Road and
                  South side of
                  Guan Qu,
                  Yu Tian
                  County
                  
                  Yu Tian Guo
                  Yong
                  (2004) Zi Di
                  No. 097
                
                Industrial
                  use
                
                
                2,674.5
                
                June
      8,
                  2004
                
                May
      21,
                  2054Xiahuayuan
                  Jinli Gas Ltd.
                
                East
                  side of Xinchen
                  Road in
      Xiahuayuan
                  District
      of
                  Zhangjiakou
      City
                
                Commercial
                  use
                
                
                3,320
                
                2008
                
                2048




52





In
addition to the land use rights described above, we have the right to use an
aggregate of approximately 36,283 square meters for our operations either
through grants or transfers of land use rights or lease arrangements. The rights
range in duration from six to 20 years. The documentation of some of these land
use rights have not yet been completed. We expect to complete the documentation
for these land use rights in the near future.





As of
December 31, 2009, we own 1040 km of high-pressure underground pipeline. We also
own and operate 39 natural gas stations with accompanying buildings, gas
compression facilities and other equipment, including 29 cars, 17 trucks, 47
containers (3000 m3 ), 5
containers (4500 m3 ), and
76 containers (300 m3 ). We
also lease two trucks and containers.





We
believe that all our properties and equipment have been adequately maintained,
are generally in good condition, and are suitable and adequate for our
business.




Item 3. Legal Proceedings





To our
knowledge, there is no material litigation pending or threatened against
us.





53





Item 4. Submission of Matters to a Vote of
Security Holders





None.





PART
II





Item 5. Market for Registrant’s Common
Equity, Related Stockholder Matters and Issuer Purchases of Equity
Securities





Our
common stock is quoted on the OTC Bulletin Board under the symbol SGAS.OB..
Since our September 7, 2006 reverse merger with GAS Investment China Co., Ltd.
(“Gas (BVI)”), there has been some minimal trading activity in our shares. The
following table provides the high and low sales prices for our common stock as
reported for the past two years.





Such
prices are based on inter-dealer bid and asked prices, without markup, markdown,
commissions, or adjustments and may not represent actual
transactions.





CALENDAR QUARTER ENDED
                
                HIGH
                  BID(S)
                
                
                LOW
                  BID(S)March
      31, 2008
                
                $
                4.0
                
                
                $
                2.10June
      30, 2008
                
                $
                2.45
                
                
                $
                1.35September
      30, 2008
                
                $
                1.45
                
                
                $
                0.77Fourth
      Quarter of 2008
                
                $
                0.80
                
                
                $
                0.30First
      Quarter of 2009
                
                $
                0.40
                
                
                $
                0.06Second
      Quarter of 2009
                
                $
                0.50
                
                
                $
                0.13Third
      Quarter of 2009
                
                $
                0.50
                
                
                $
                0.31Fourth
      Quarter of 2009
                
                $
                1.21
                
                
                $
                0.46





As of
March 30, 2010, there were 659 holders of record of our common
stock.





To date,
we have neither declared nor paid any cash dividends on shares of our common
stock. We presently intend to retain earnings to finance the operation and
expansion of our business and do not anticipate declaring cash dividends in the
foreseeable future.





54





Recent Sales of
Unregistered Securities.





Our
current reports on Form 8-K/A’s filed on January 19 and 20, 2010 are
incorporated herein in their entireties.





Item
6. Selected Financial Data





Not
required.





Item 7. Management’s Discussion and Analysis
of Financial Condition and Results of Operation





The
following discussion and analysis of our consolidated financial condition and
results of operations should be read in conjunction with the consolidated
financial statements and related notes of Beijing Gas appearing elsewhere in
this annual report. This discussion and analysis contains forward-looking
statements that involve risks, uncertainties and assumptions. Actual results may
differ materially from those anticipated in these forward-looking statements as
a result of certain factors, including, but not limited to, those set forth
under "Risk Factors" in this annual report.





Overview





We are
engaged in the development of natural gas distribution systems and the
distribution of natural gas to residential, and industrial customers in small-
and medium-sized cities in China, through our indirectly-owned subsidiaries in
the PRC, Beijing Gas and its subsidiaries.




Beijing
Gas is organized as a holding company with 27 subsidiaries, known as project
companies, in four provinces, and four branches offices in Beijing, as shown on
the corporate structure chart provided below. The project companies are the
operating subsidiaries of Beijing Gas. Each project company operates as a local
natural gas distributor in a city or county, known as an operational location,
under an exclusive franchise agreement between Beijing Gas and the local
government or entities in charge of gas utility, pursuant to which Beijing Gas
formed the project company to operate the natural gas distribution project in
the operational location. These exclusive franchise agreements last between
20-30 years.





In
addition, Beijing Gas holds a 40% equity interest in Beijing Zhong Ran Xiang Ke
Oil and Gas Technology Co. Ltd. (“Beijing Zhong Ran Xiang Ke”), a PRC joint
venture entity engaged in the business of development, licensing and sale of oil
and gas technologies and equipment, and sale of self-produced
products.





55





Through
its subsidiaries, Beijing Gas is a natural gas distributor, principally engaging
in the investment, operation and management of city gas pipeline infrastructure,
in the distribution of natural gas to residential and industrial users, in the
construction and operation of natural gas distribution networks, and in the
development and application of natural gas related technologies. Beijing Gas and
it subsidiaries own and operate 39 natural gas distribution systems serving
approximately 145,000 residential and seven industrial customers. Our facilities
include approximately 1,040 km of pipeline and delivery networks with a daily
capacity of approximately 110,000 cubic meters of gas. We own and operate
natural gas distribution systems primarily in Hebei, Jiangsu, Jilin, Anhui and
Beijing.





Below is
our corporate structure:











(1)See “Organizational History of Gas
(BVI) and Beijing Gas” under “Description of Business” of this annual report
regarding the subsidiaries of Beijing Gas.





56





Executive
Summary





Economic
& Industrial Trend





We
generate revenue from two sources: connection fees for constructing connections
to our natural gas distribution network and sales of natural gas. Our connection
activities are closely related to the development of the real estate industry in
our targeted cities in China, given the fact that almost all of our connection
fees are from new residential apartments. Natural gas facilities in new
apartments are often required by local governments, who aim to promote the use
of natural gas to improve local residents’ quality of life.




We have
experienced high growth of our connection activities since inception of our
business due to the Chinese real estate boom in the past years. However, in
2007, the Chinese government implemented a series of policies and regulations to
curb inflation and the property market. These policies, together with the
worldwide financial crisis in 2008, has resulted a slowdown of the real estate
market in China and our business, in turn, has been affected in 2008. Starting
in 2008, the Chinese government had changed its policy and prioritized boosting
of the economy. The Chinese government had adopted new policies to address the
slowdown of the real estate market, such as reducing stamp duties and
transactions fees, lowering interest rates, and loosening bank lending policies.
The Chinese government had also decided to inject a stimulus package to boost
the overall economy, including allocation of funds for mass housing projects. We
saw signs of recovery of the real estate market in China at the beginning of
2009, and experienced the increased activities in the 3rd quarter
of 4th quarter
of 2009.





Even with
the up and down of the Chinese real estate market in the past two years, we
believe that the future growth trend of the real estate market will not change
because of the continuous urbanization in China.




There are
three pillars in Chinese economy: domestic consumption (both private and
public), net exports, and domestic investment. Chinese Government RMB 4 trillion
stimulus package has great impacts on China's domestic production and
investments in the past year. GDP growth rebounded to 7.9 per cent in the second
quarter from 6.1 percent in the first, which represented a 10-year low. In the
third quarter and fourth quarter, China’s economic growth accelerated to 9.1 per
cent and 10.7 per cent respectively. China GDP grows by 8.7 percent in 2009,
exceeding the target 8%. The GDP growth is expected to maintain strong in
2010.





Our gas
users are composed of industrial and residential users. Gas sales from
residential users are much less affected by economic and industrial factors and
would maintain stable growth in the future, due to the increasing pool of our
residential customers. Gas sales from industrial users is subject to the
operating performance of the end industrial user. As we develop into more
cities, we expect to add more industrial users in the coming year if capital
requirements are available.





Material
Opportunities





The gas
distribution market is quite fragmented in the small (population less than
300,000)-to-medium (population between 300,000 to 1,000,000) sized cities. We
are exploring potential project targets. The size of the projects varies from
small cities to medium-sized cities. For small city markets, many of them are
still untapped or undeveloped. The development of these markets is generally
considered major growth components of the company.





57





Regarding
medium-sized or large cities, most of them have already been developed by large
distributors or are still operated by state-owned companies. Acquisition
opportunities exist for those still run by state-owned companies, as the central
government encourages suppliers to turn them into privately-owned companies. The
acquisition of these markets would have material impact on the company,
increasing the company’s assets and revenues significantly. The company intends
to raise money for accretive acquisitions when they become
available.





Material
Challenges





There are
vast number of small-to-medium sized cities left undeveloped, but the
competition is -growing, as there are many small new players in the market
attracted by the profitability and growth potential of the business. Meanwhile,
from time to time, we are also facing competitions from stronger competitors, as
large city markets are getting saturated and our competitors are beginning to
expand into smaller cities.





We are
facing limited opportunities in developing into first-tier cities in China, as
most of them have already been taken by other large gas distributors, such as
Xin’ao Gas Co. Ltd (largest in China) in the past decade.





Still,
potential users in small and medium-sized cities need to be educated by the
benefits of natural gas. It takes some time for them to get to know how natural
gas can improve the quality of life. This is especially true for new markets,
where there is no use of natural gas. Small cities tend to be more reluctant for
use of new energies than large cities where residents depend more on coal,
rather than natural gas.





China’s
energy market is highly regulated by the government, with regard to purchase
price and sale price of natural gas. Whenever there is an adjustment to purchase
price by the government, gas distributors would increase the sale price
correspondingly, subject to a public hearing and government approval. The
increase of natural gas prices in China is lagging behind that in the
international markets. The Chinese government has seldom adjusted natural gas
and we cannot rule out the possibilities of an increase of natural gas prices by
the government in the future. Even though we can adjust the sale price
accordingly after the increase of purchase price, passing the increase to end
users. However, it would make natural gas more expensive, as compared to other
alternative energies. Thus this increase of price will deter our business
development.





58





Risks
in Short-Term and Long-Term





In each
of the cities we are developing and aiming to develop, the real estate market is
the major factor that impacts us. Most of our residential customers are the new
home buyers. If the real estate market turns downward, the demands for new homes
would decrease, resulting in fewer natural gas connections, and thus negatively
impacting our business.





To reduce
the company dependence on connection fees, the company is looking at
opportunities to diversify its business by expanding into related areas, such as
pipeline and gas station business. However, we do not expect to develop into
those areas in large scale any time soon and it may take some time for those
businesses to become our major business.





RESULTS
OF OPERATIONS





Year
Ended Dec 31, 2009 Compared to Year Ended Dec 31, 2008





In the
year ended December 31, 2009, net revenues were $27,591,501, representing an
increase of 28.64% from that of the previous year, and gross profit was
$9,474,000, representing an increase of 26.83% from that of the previous year.
Operating income in 2009 was $5,066,476, representing an increase of 88.37% from
the previous year.




For the 12 months ended
                      December 31,2009
                    
                    
                    2008
                    
                    
                    ChangeUS$
                    
                    
                    US$
                    
                    
                    %Net
      Revenues
                    
                    
                    27,591,501
                    
                    
                    
                    21,448,488
                    
                    
                    
                    28.64
                    %Gross
      Profit
                    
                    
                    9,474,001
                    
                    
                    
                    7,469,980
                    
                    
                    
                    26.83
                    %Operating
      Income
                    
                    
                    5,066,476
                    
                    
                    
                    2,689,582
                    
                    
                    
                    88.37
                    %Net
      Income
                    
                    
                    4,047,584
                    
                    
                    
                    1,600,493
                    
                    
                    
                    152.90
                    %Gross
      Margin
                    
                    
                    34.34
                    %
                    
                    
                    34.83
                    %Net
      Margin
                    
                    
                    14.67
                    %
                    
                    
                    7.46
                    %




59




Net
Revenues





We
generate revenues from two sources: connection fees for constructing connections
to our natural gas distribution network, and sales of natural gas.





Total net
revenues for the year ended December 31, 2009 were $27,591,501, compared to
$21,448,488 for the same period in 2008, representing an increase of
28.64%. The increase was due to the significant increases of both gas
sales, and the connection fees. In 2009, we connected 32,681 new
residential households to our gas distribution network, resulting in total
connection fees of $11,887,546. Gas sales during the same period amounted to
41.93 million cubic meters, or $15,703,955. In comparison, we connected
26,770 new residential households to our gas distribution network throughout
2008, resulting in total connection fees of $9,287,529. Gas sales during
the period amounted to 34.71 million cubic meters, or $12,160,959.





For the 12 months ended December 31,2009
                                  
                                  
                                  2008
                                  
                                  
                                  Change(In
      $ million)
                                  
                                  US$
                                  
                                  
                                  %
                                  
                                  
                                  US$
                                  
                                  
                                  %
                                  
                                  
                                  %Net
      Revenues
                                  
                                  
                                  27.59
                                  
                                  
                                  
                                  100
                                  %
                                  
                                  
                                  21.45
                                  
                                  
                                  
                                  100
                                  %
                                  
                                  
                                  28.64
                                  %Connection
      Fees
                                  
                                  
                                  11.89
                                  
                                  
                                  
                                  43.08
                                  %
                                  
                                  
                                  9.29
                                  
                                  
                                  
                                  43.31
                                  %
                                  
                                  
                                  27.99
                                  %Gas
      Sales
                                  
                                  
                                  15.70
                                  
                                  
                                  
                                  56.92
                                  %
                                  
                                  
                                  12.16
                                  
                                  
                                  
                                  56.69
                                  %
                                  
                                  
                                  29.13
                                  %





Our net
revenues for the year ended December 31, 2009 largely resulted from the
following factors:





1)
            Significant increase of gas
      sales. With more customers added into our existing gas network system, the
      gas sales increased significantly compared to the previous
      year.





2)
            Substantial increase of
      connection fees from residential customers.  Connection fee is
      closely tied to real estate market in China, and offer a higher gross
      margin than gas sales The real estate market started its recovery in China
      at the beginning of 2009, and the activities increased in the 3rd quarter
      of 4th quarter of 2009, especially in the 4thquarter.




We expect
the percentage of gas sales relative to total revenue will continue
to increase and the percentage of connection fees relative to the total
revenues to decrease, since more customers will be added into our gas
distribution network.





60




The
company is also considering opportunities to diversify its business by expanding
into related areas, such as pipeline and gas fueling stations. However, we do
not expect to develop into these areas on a large
scale immediately..





Connection
Fees





Connection
fees in 2009 were $11.89 million, representing an increase of 27.99%
over the year 2008. Connection fees in 2009 accounted for approximately 43.08%
of total net revenue compared to approximately 43.30% for the same period in
2008. We connected 32,681 residential users in 2009, an increase of
approximately 22.08% from 2008. .




For the 12 months ended December 31,(in US$ millions)
                                  
                                  2009
                                  
                                  
                                  2008
                                  
                                  
                                  ChangeUS$
                                  
                                  
                                  %
                                  
                                  
                                  US$
                                  
                                  
                                  %
                                  
                                  
                                  %Connection
      Fees
                                  
                                  
                                  11.89
                                  
                                  
                                  
                                  100
                                  %
                                  
                                  
                                  9.29
                                  
                                  
                                  
                                  100
                                  %
                                  
                                  
                                  27.99
                                  %Residential
      Users
                                  
                                  
                                  11.84
                                  
                                  
                                  
                                  99.63
                                  %
                                  
                                  
                                  9.29
                                  
                                  
                                  
                                  100
                                  %
                                  
                                  
                                  27.53
                                  %Industrial
      Users
                                  
                                  
                                  0.05
                                  
                                  
                                  
                                  0.37
                                  %
                                  
                                  
                                  0
                                  
                                  
                                  
                                  0
                                  %





Gas
Sales





In terms
of volume, we sold 41.93 million cubic meters of natural gas in 2009, compared
to 34.71 million cubic meters in 2008. In terms of value, gas sales were $15.70
million in 2009, accounting for 56.92% of total net revenue in 2009,
representing an increase of 29.13% over the year 2008. Gas sales to residential
users increased 77.07%, from $4.18 million in 2008 to $7.41 million in 2009. Gas
sales to industrial and commercial users increased 3.88%, from $7.98 million in
2008 to $8.29 million in 2009.




For the 12 months ended December 31,2009
                                
                                
                                2008
                                
                                
                                Change($
      million)
                                
                                US$
                                
                                
                                %
                                
                                
                                US$
                                
                                
                                %
                                
                                
                                %Gas
      Sales
                                
                                
                                15.70
                                
                                
                                
                                100
                                %
                                
                                
                                12.16
                                
                                
                                
                                100
                                %
                                
                                
                                29.13
                                %Residential
      Users
                                
                                
                                7.41
                                
                                
                                
                                47.17
                                %
                                
                                
                                4.18
                                
                                
                                
                                34.4
                                %
                                
                                
                                77.07
                                %Industrial
      and Commercial Users
                                
                                
                                8.29
                                
                                
                                
                                52.83
                                %
                                
                                
                                7.98
                                
                                
                                
                                65.6
                                %
                                
                                
                                3.88
                                %




61





Such
substantial increases were primarily attributable to the fact that our invested
projects maintained steady development, and more users were added to our gas
distribution network.





Cost
of Revenues





Cost of
revenues in 2009, which includes cost of connection and cost of gas sales, was
$18.12 million, an increase of $4.14 million, or 29.61%, from $13.98 million in
2008.





For the 12 months ended December 31,2009
                                
                                
                                2008
                                
                                
                                Change($
      million)
                                
                                US$
                                
                                
                                %
                                
                                
                                US$
                                
                                
                                %
                                
                                
                                %Cost
      of Revenues
                                
                                
                                18.12
                                
                                
                                
                                100
                                %
                                
                                
                                13.98
                                
                                
                                
                                100
                                %
                                
                                
                                29.61
                                %Connection
      Cost
                                
                                
                                3.29
                                
                                
                                
                                18.17
                                %
                                
                                
                                2.89
                                
                                
                                
                                20.7
                                %
                                
                                
                                13.75
                                %Gas
      Cost
                                
                                
                                14.82
                                
                                
                                
                                81.83
                                %
                                
                                
                                11.08
                                
                                
                                
                                79.3
                                %
                                
                                
                                33.75
                                %





Cost of
Connection





The cost
of connection increased 13.75% to $3.29 million during the year ended December
31, 2009 from $2.89 million for the same period in 2008. This increase is mainly
due to the increase of connection service activities in 2009 as compared to
2008.





Cost of
connection includes depreciation of major pipelines, the cost of courtyard
pipelines, valves, gas meters, and installation and maintenance
fees.





62





Cost of
Gas Sales





The cost
of natural gas sales includes the purchase and transportation of natural gas and
depreciation of delivery equipment. The cost of gas sales increased 33.75% to
$14.82 million during the year ended December 31, 2009 from $11.08 million
during the same period in 2008. This increase, which outpaced the 29.13%
increase in sales of natural gas during the same interval, is largely due to the
increase of rental expenses on gas delivery trucks and higher fuel cost in
2009.





Gross
Profit





For the 12 months ended December 31,2009
                                
                                
                                2008
                                
                                
                                Change($
      million)
                                
                                US$
                                
                                
                                %
                                
                                
                                US$
                                
                                
                                %
                                
                                
                                %Gross
      Profit
                                
                                
                                9.47
                                
                                
                                
                                100
                                %
                                
                                
                                7.47
                                
                                
                                
                                100
                                %
                                
                                
                                26.83
                                %Connection
                                
                                
                                8.59
                                
                                
                                
                                90.72
                                %
                                
                                
                                6.39
                                
                                
                                
                                85.58
                                %
                                
                                
                                34.45
                                %Gas
                                
                                
                                0.88
                                
                                
                                
                                9.28
                                %
                                
                                
                                1.08
                                
                                
                                
                                14.42
                                %
                                
                                
                                -18.39
                                %





During
the year ended December 31, 2009, gross profit was $9.47 million, representing
an increase of approximately 26.83% from the same period of 2008. Gross profit
from connection fees is $8.59 million for 2009, accounting for 90.72% of total
gross profit. In comparison, gross profit from connection fees was $6.39 million
for 2008, accounting for 85.58% of total gross profit. Gross profit from gas
sales was $0.88 million, accounting for 9.28% of total gross profit, compared to
$1.08 million, 14.42% of total gross profit in the same period in
2008.





Gross
margin during the year ended December 31, 2009 is 34.34%, compared to 34.83%
during the same period in 2008.





Gross
margin for connection fees for the year 2009 was 72.30%, compared to 68.83% in
2008. The margin improved in 2009 since we connected more households in the
cities.





Gross
margin for sales of natural gas was 5.6% in 2009, compared to 8.86% during the
same period of 2008. The decrease was due to an increase of rental expenses on
gas delivery trucks and higher cost of fuel in 2009.





63





Selling
and Marketing Expenses





Our
selling and marketing expenses in the year ended December 31, 2009 were $1.03
million and approximately 3.7% of our net revenues, compared with $1.14 million,
or 5.3% of net revenues in the same period of 2008.





General
and Administrative Expenses





General
and administrative expenses were $3.37 million for the year ended December 31,
2009, approximately 12.2% of our net revenues, compared with $3.64 million, or
approximately 17.0% of net revenues for the same period in 2008.





Operating
Income





The
operating income in 2009 was $5.06 million, representing an increase of 88.4%
compared to the operating income of $2.69 million in 2008.





Other
Income (Expense)





Other
Income was $0.08 million for the year ended December 31, 2009, compared with
Other Expense of $0.18 million for the same period of 2008.





Income
tax





Income
tax was $1.09 million in 2009, compared to $0.90 million in 2008.





Net
Income





Net
income for the year ended December 31, 2009 was $4.05 million, representing a
strong improvement of 152.90% from $1.60 million in the same period in 2008.
This improvement was due to the increase of gross profit driven by higher sales,
and the decrease of SG&A and other expenses, for the year ended December 31,
2009 as compared to the same period of 2008. Income available to common
stockholders for diluted EPS for the year ended December 31, 2009 was $4.28
million after adding back interest expense $0.23 million for convertible
bonds.





64





Liquidity
and Capital Resources





Cash and
cash equivalents were $9.82 million as of December 31, 2009, an increase of
$6.79 million as compared to $3.03 million of cash and cash equivalents as of
December 31, 2008.





Cash
sourced in operating activities for the year ended December 31, 2009 was $7.83
million, an increase of $3.62 million from $4.21 million during the same period
of 2008. Such increase was mainly due to the increase of net income, adjusted
for non-cash expense items and changes in working capital.





Cash used
in investing activities for the year ended December 31, 2009 was $14.05 million,
a decrease of $2.91 million from $16.96 million during the same period of
2008.





Cash
sourced in financing activities for the year ended December 31, 2009 is $12.96
million, an increase of 13.51 million from that during the same period of 2008.
We secured bank loans in the net amount of $7.32 million, and raised capital in
the net amount of $5.64 million through convertible bonds. There were basically
no financing activities in 2008 due to the unfavorable capital
markets.




Based on
our past performance and current expectations, we believe we can meet our cash
needs for the next twelve months. In particular, we will utilize our cash and
cash equivalents, as well as cash generated from operations to satisfy our
working capital needs, capital expenditures and other liquidity requirements
associated with our operations for the next 12 months. However, the Company may
require additional financing to complete an unanticipated transaction or satisfy
its daily cash needs in the event that financial circumstances of the Company
change. At that time, in the event we are not able to obtain a sufficient line
of credit or other form of financing, our ability to operate our business could
be significantly impacted and our financial condition and our results of
operations could suffer.





Accounts
Receivable





Accounts
receivable as of December 31, 2009 were $5.04 million, representing a decrease
of $0.97 million from $6.01 million as of December 31, 2008. The decrease was
due to the fact that we continuously made efforts on AR
collections.





Notes
Receivable





Notes
receivable of $0.35 million as of December 31, 2009.





65





Inventory





Inventory
of $0.42 million as of December 31, 2009 comprised spare parts and natural
gas.





Fixed
Assets





Fixed
Assets as of December 31, 2009 was $ 52.10 million, an increase of $15.92
million from $36.18 million in 2008. The table below is a breakdown of our fixed
assets at cost:





2009
                
                
                2008At
      CostGas
      Pipelines
                
                $
                37,329,888
                
                
                $
                27,859,313Motor
      Vehicles
                
                
                5,775,903
                
                
                
                5,600,508Machinery
      & Equipment
                
                
                1,482,599
                
                
                
                857,834Buildings
                
                
                7,194,148
                
                
                
                1,568,380Leasehold
      Improvements
                
                
                80,113
                
                
                
                80,101Office
      Equipment
                
                
                238,673
                
                
                
                216,435Less
      Accumulated depreciation
                
                
                (4,329,313
                )
                
                
                (3,149,453
                )$
                47,772.011
                
                
                $
                33,033,118




66





Bank
Loans





We
secured new bank loans in 2009.Short term Bank loans as of December 31, 2009
were $2.93 million, an increase of 0.74 million from that as of December 31,
2008. Long term Bank loans as of December 31, 2009 were $6.58
million.




Other
Payables





Other
payables as of December 31, 2009 were $6.34 million, a slight increase of $0.17
million from the end of 2008.





Off-balance
Sheet Arrangements





We do not
have any off-balance sheet arrangements.




Item 8. Financial Statements and
Supplementary Data





Our
financial statements begins on page F-1 of this annual report.





Item 9. Changes In and Disagreements With
Accountants on Accounting and Financial Disclosure





None.





67




Item 9A.Controls and
Procedures





Management’s
Report of Disclosure Controls and Procedures





Our
management is responsible for establishing and maintaining adequate disclosure
controls and procedures as defined in Rules 13a-15(e) and 15d-15(e) of the
Exchange Act and have designed disclosure controls and procedures or caused
disclosure controls and procedures to be designed under its supervision in order
to provide reasonable assurance regarding the reliability of financial reporting
and the preparation of financial statements for external purposes in accordance
with generally accepted accounting principles, as applicable. We maintain
disclosure controls and procedures that are designed to ensure that information
required to be disclosed in our Exchange Act reports is recorded, processed,
summarized and reported within the time periods specified in the SEC’s rules and
forms, and that such information is accumulated and communicated to our
management, including our Chief Executive Officer and Chief Financial Officer,
as appropriate, to allow timely decisions regarding required disclosure. Due to
its inherent limitations, disclosure controls and procedures may not prevent or
detect material misstatements. In addition, projections of any evaluation of
effectiveness to future periods are subject to the risk that controls may become
inadequate because of changes in conditions, or that the degree of compliance
with the policies or procedures may deteriorate.





Under the
supervision of and with the participation of our Chief Executive Officer and our
Chief Financial Officer, our management conducted its evaluation of the
effectiveness of our Company’s disclosure controls and procedures as of December
31, 2009. Based on that evaluation, our management concluded that, as of
December 31, 2009, our Company’s disclosure controls and procedures were
effective.





Management’s
Report of Internal Control over Financial Reporting





Our
management is responsible for establishing and maintaining adequate internal
control over financial reporting as defined in Rules 13a-15(f) and 15d-15(f) of
the Exchange Act and have designed internal control over financial reporting or
caused internal control over financial reporting to be designed under its
supervision in order to provide reasonable assurance regarding the reliability
of financial reporting and the preparation of financial statements for external
purposes in accordance with generally accepted accounting principles, as
applicable. Due to its inherent limitations, internal control over financial
reporting may not prevent or detect material misstatements. In addition,
projections of any evaluation of effectiveness to future periods are subject to
the risk that controls may become inadequate because of changes in conditions,
or that the degree of compliance with the policies or procedures may
deteriorate. We performed an evaluation of the effectiveness of our internal
control over financial reporting that is designed by, or under the supervision
of, our Chief Executive Officer and Chief Financial Officer using the criteria
in theInternal
Control-Integrated Framework issued by the Committee of Sponsoring
Organizations of the Treadway Commission (COSO), and effected by our board of
directors, management, and other personnel, to provide reasonable assurance
regarding the reliability of financial reporting and the preparation of
financial statements for external purposes in accordance with GAAP and includes
those policies and procedures that:




•
              pertain to the maintenance of
      records that, in reasonable detail, accurately and fairly reflect the
      transactions and dispositions of the assets of the
      Company;
 
 •
              provide reasonable assurance that
      transactions are recorded as necessary to permit preparation of financial
      statements in accordance with Generally Accepted Accounting Principles,
      and that receipts and expenditures of the Company are being made only in
      accordance with authorizations of management and directors of the Company;
      and




68




•
            provide reasonable assurance
      regarding prevention or timely detection of unauthorized acquisition, use,
      or disposition of the Company's assets that could have a material effect
      on the financial statements.





A
material weakness (within the meaning of PCAOB Auditing Standard No. 5) is a
deficiency, or a combination of deficiencies, in internal control over financial
reporting, such that there is a reasonable possibility that a material
misstatement of our annual or interim financial statements will not be prevented
or detected on a timely basis.  A significant deficiency is a
deficiency, or a combination of deficiencies, in internal control over financial
reporting that is less severe than a material weakness, yet important enough to
merit attention by those responsible for oversight of the company's
financial reporting.





Under the
supervision of and with the participation of our Chief Executive Officer and our
Chief Financial Officer, our management conducted its evaluation of the
effectiveness of our Company’s internal control over financial reporting as of
December 31, 2009.  Based on that evaluation, our management concluded
that, as of December 31, 2009, our Company’s internal control over financial
reporting was not effective due to the following significant
deficiencies:





(1) The
Company has not yet established the mechanism to require all the employees to
sign an affidavit acknowledging that the employee has read and will intend to
comply with the Code of Conduct and Ethics (the “Code”) which is applicable to
all Company directors, officers and employees.





(2) Our
Internal Audit Department has not taken a full active role in the conduct of its
activities due to insufficient resources. The anti-fraud monitoring mechanism
has not been developed yet.





(3) Our
Company did not formulate a comprehensive Related Party Transactions Policy and
develop a master list of all Related Parties.





This
annual report does not include an attestation report of the company's registered
public accounting firm regarding internal control over financial reporting.
Management's report was not subject to attestation by the company's registered
public accounting firm pursuant to temporary rules of the Securities and
Exchange Commission that permit the company to provide only management's report
in this annual report.


69


Management’s
Plan for Remediation of significant deficiencies





Our
management has worked, and will continue to work, to address these deficiencies
in our internal control over financial reporting. Implementations of certain
remedial measures include the following:





(1) All
the employees will be required to sign an affidavit acknowledging that the
employee has read and will intend to comply with the Code before the end of
second quarter of 2010. We are going to continue modify the Code, and arrange
respective on-going training to all the employees with the update of the
Code.  The Code will be distributed to all the employees.





(2) The
management has engaged an Internal Audit Manager to take the active role of
Internal Audit Function of the Company.  With the assistance of third
party professional, the roles and responsibilities of the internal audit
department together with the risk-based internal audit plan have been formulated
and approved by Audit Committee.   The anti-fraud mechanism will
be established before the end of second quarter of 2010.





(3) We
will try to develop a comprehensive Related Party Transactions Policy
and  a master list of all Related Parties  before the end of
third quarter 2010.





Changes
in Internal Control over Financial Reporting





During
the fourth quarter of the year ended December 31, 2009, there was no change in
our internal controls over financial reporting that has materially affected, or
that is reasonably likely to materially affect, our internal control over
financial reporting.





Item 9B. Other Information





None.




70


PART
III
 
 Item 10. Directors, Executive
Officers and Corporate Governance


Management





Directors
and Executive Officers




Directors and Executive
      Officers
                
                Position/Title
                
                AgeYuchuan
      LIU
                
                President
      & Chief Executive Officer, director and Chairman of the
      Board
                
                44Zhicheng
      ZHOU
                
                Chief
      Operating Officer/Director
                
                44Zhimin
      ZHONG
                
                Marketing
      Director
                
                53Shukui
      BIAN
                
                Vice
      President & Chief Engineer
                
                44Yugang
      ZHANG
                
                Chief
      Financial Officer
                
                37Guowei
      CHEN
                
                Director
                
                52Quandong
      SUN
                
                Director
                
                42Zhongsheng LIU
                
                Director
                
                49Xinmin
      ZHANG
                
                Director
      (resigned effective May 10, 2009)
                
                53Yong
      LI
                
                Director
      (effective February 22, 2010)
                
                45





There are
no family relationships among our directors or executive officers.





All our
directors hold office until the next annual meeting of our shareholders, and
until their successors have been qualified after being elected or appointed.
Officers serve at the discretion of our board of directors.





Set forth
below is the biographical information about our directors and executive
officers:





Mr. Yuchuan
Liu Mr. Liu was appointed our Chairman, Chief Executive Officer and
President on September 7, 2006. Mr. Liu graduated from North Industrial
University, Beijing, PRC with a B.S. degree in electrical engineering. Mr. Liu
has been a licensed Senior Engineer in the PRC since 1997. Mr. Liu was the
Chairman of the board of directors and General Manager of Beijing Zhong Ran Wei
Ye Gas Co., Ltd. between 2003-2006 and he was the Chairman of the Board of
Beijing Xiang Ke Jia Hua Petroleum and Natural Gas Co., Ltd. between 2000 and
2003. Prior to that, Mr. Liu served as CEO of Lang Fang Zhong Gong Petroleum and
Natural Gas Technology Co., Ltd. from 1997 to 1999. Prior to that, Mr. Liu
served as the Chief of Research and Development Department of Petro China from
1983 to 1997. We believe that Mr. Yuchuan Liu, the founder of the Company, has
the most extensive knowledge and experience in natural gas industry within the
Company, which qualify him for the Chairman position.


71


Mr.
Zhicheng Zhou Mr. Zhou was appointed our Chief Operating Officer on
October 19, 2006. Previously, Mr. Zhou served as the director and General
Manager of Beijing Chenguang Gas Co., Ltd. from late 2002 to 2007. Prior to
that, Mr. Zhou served as the Associate General Manager and later General Manager
of Beijing Zhong Ran Xiang Ke Petroleum and Oil Technology Co., Ltd. between
2001 and 2002. Mr. Zhicheng Zhou, the COO of the Company, has extensive
knowledge and experience in natural gas industry. He has great operational and
managerial skills. We believe these qualify him for the director
position.





Mr. Zhimin
ZhongMr.
Zhong was appointed our Marketing Director on September 7, 2006.Mr. Zhong graduated
from Nanjing University with a B.S. in Philosophy. Mr. Zhong was the Marketing
Director for Beijing Zhong Ran Wei Ye Gas Co., Ltd., between 2004-2006. Mr.
Zhong was Vice President of Shen Zhen Guo Qi Real Estate Co. Ltd from 1995 to
2004. Prior to that, Mr. Zhong served as a government official in several cities
in Jiang Xi Province between 1978 and 1995.





Mr. Shukui
BianMr.
Bian was appointed our Vice President and Chief Engineer on September 7, 2006.
Mr. Bian graduated from Daqing Petroleum Institute with a B.S. and Petroleum
University with a M.S. He served as Vice President of Beijing Zhong Ran Xiang Ke
Petroleum and Oil Technology Co., Ltd. between 2000 and 2007. Prior to that, Mr.
Bian had been with North China Oilfield The First Refinery Factory for fourteen
years. Mr. Bian was one of the industry experts that drafted The National
Standard of Natural Gas Usage in Cities in China.





Mr. Yugang ZhangMr. Yugang Zhang was appointed Chief Financial Officer On August 25,
2008. Mr. Zhang was the Area Financial Controller for Asian Operation of
Smufit-Stone Container Enterprises Inc., a U.S. company, from June 2003 to July
2008. Prior to that, from March 2001 to May 2003, he worked as the Plant
Controller of the same company in Mansfield, MA. From September 2000 to March
2001, he was the Assistant Controller and Accounting Manager for FAE Worldwide,
Inc. in Boston, MA. From February 1999 to September 2000, he was the Staff
Accountant for Braver CPAs & Co., P.C. of Chestnut Hill, MA. Mr. Zhang
obtained an MBA from the Clark University of Massachusetts with a full-tuition
scholarship in 1997 and graduated from the Mechanical Engineering School of
Harbin Institute of Technology in Harbin with a Bachelor’s degree in
1993.





Mr.
GuoweiChenMr. Chen was appointed
our director on September 7, 2006 and a member of the auditor committee of our
board and a member of the compensation committee of our board on October 19,
2006. Mr. Chen graduated from East China College of Metallurgy with a major in
Accounting. From March 2006 to present, Mr. Chen has been the general manager
and chairman of the board of Shen Zhen Jia Xin Real Estate Development Co., Ltd.
Prior to that, he was the general manager of Hang Zhou Steal Group from 2001 to
February 2006. Mr. Chen is very experienced in general and financial management.
Mr. Guowei Chen, a seasoned professional in general and financial management,
was chairman of the board of a real estate company in China. We believe that his
experience qualifies him for the director position.


72


Mr.
QuandongSunMr. Sun was appointed
our director on September 7, 2006 and a member of the audit committee of our
board and a member of the compensation committee of our board on October 19,
2006. Mr. Sun graduated from Shanghai Maritime University with a B.S. Mr. Sun
has been Chairman of Jidong Shipping Co., Ltd from 1995. Prior to that, Mr. Sun
served as Manager in the Shipping Department of Shekou Shipping Co., Ltd between
1987 to 1994. Mr. Quandong Sun, a seasoned professional in general management,
was chairman of another company in China. We believe his experience qualifies
him for the director position.





Mr. Zhongsheng
Liu Mr. Liu was appointed our director on May 19, 2009 and will
serve for two years. From December 2008 until present, he served as executive
vice president of China Merchants Investment (Fund) Management Co. From
January 2006 to December 2008, he served as general manager of Zhengzhou Office
of China Great Wall Asset Management Corporation. From July 2004 to January
2006, he served as general manager of market development department of China
Great Wall Asset Management Corporation. From January 2001 to July 2004, he
served as general manager of asset management department of China Great Wall
Asset Management Corporation. Mr. Liu obtained a bachelor’s degree in Mine
Construction and a second bachelor’s degree in Engineering Management, both from
Shenyang Northeast University in 1983 and 1990 respectively. He also obtained a
doctorate degree of Management from Financial Science Research Institute of
Ministry of Finance in 2005. Mr. Zhongsheng Liu, a doctor of management, is
executive vice president of one of China’s top investment management companies.
We believe that his various working experience and educational background
qualify him for the director position.





Mr. Yong
LiMr. Yong Li was appointed a director on  February
22, 2010 and a member of audit committee.  Mr. Li is a partner at
Investwide LLC and Investwide Capital LLC since January 2005 and May 2009
respectively, where he oversees investment strategies. He is also the Managing
Director of Midway Group LP in New York, in charge of risk management, and has
been with the firm since February 2003. Mr. Li graduated from China ’s Sichuan
University in 1987 with a B.S. in computer science. He also received a M.S. in
Mathematics and Computer Science in 1989 and a Ph.D. in Computer
Science/Operations Research in 1992 from Pennsylvania State University. Mr. Yong
Li is currently a partner of a US based investment company, Given Mr. Yong Li's
US capital markets experience and extensive knowledge of Chinese clean
energy-related companies from an investment banking perspective, he will be a
strong resource to the Company. we believe that these attributes qualify him for
the director position.





Mr. Liu
Yuchuan,  with extensive experience in business development,
and  knowledge of the China’s natural gas industry, was elected as
both our chairman of board and CEO to efficiently manage the Company. We
currently do not have a lead independent director.





During the last ten
years, none of our directors and executive officers (including those of our
subsidiaries) has:





Had a
bankruptcy petition filed by or against any business of which such person was a
general partner or executive officer either at the time of the bankruptcy or
within two years prior to that time.


73




Been
convicted in a criminal proceeding or been subject to a pending criminal
proceeding, excluding traffic violations and other minor offenses.





Been
subject to any order, judgment or decree, not subsequently reversed, suspended
or vacated, of any court of competent jurisdiction, permanently or temporarily
enjoining, barring, suspending or otherwise limiting his involvement in any type
of business, securities or banking activities.





Been
found by a court of competent jurisdiction (in a civil action), the SEC, or the
Commodities Futures Trading Commission to have violated a federal or state
securities or commodities law, and the judgment has not been reversed, suspended
or vacated.





In 2009,
the Board of Directors had held 6 meetings, all the directors were
present.





Board
Composition and Committees





Our board
of directors currently consists of six members: Yuchuan Liu, Zhongsheng Liu,
Guowei Chen, Quandong Sun,  Zhicheng Zhou and Yong Li. Zhongsheng
Liu,  Guowei Chen and Yong  Li are “independent” as that
term is defined by SEC rules.





Compensation
Committee





Our
Compensation Committee comprises three members and is responsible for the
administration of all salary, bonus and incentive compensation plans for our
officers and key employees. The members of our Compensation Committee
are  Zhongsheng Liu, Guowei Chen and Quandong Sun. Zhongsheng Liu and
Guowei Chen are “independent” as that term is defined by SEC rules.





Audit
Committee Financial Expert





Because
we only recently  appointed the current members of our board of
directors, our board of directors has not yet appointed a member who qualifies
as an “audit committee financial expert” as defined in Item 401(e) of Regulation
S-B, and is "independent" as the term is used in Item 7(d)(3)(iv) of Schedule
14A under the Exchange Act.


74


Audit
Committee





Our board
of directors appointed an audit committee on October 19, 2006. Our current audit
committee members are Quandong Sun,
GuoweiChen  ,  Zhongsheng Liu and Yong Li. Zhongsheng Liu
Guowei Chen and Yong Li are “independent” as that term is defined by SEC rules.
At the present time, we believe that the members of our audit committee are
collectively capable of analyzing and evaluating our financial statements and
understanding internal controls and procedures for financial reporting. Our
company, however, recognizes the importance of good corporate governance and
intends to identify and appoint an audit committee comprised entirely of
independent directors, including at least one financial expert, in the near
future.





Section
16(a) Beneficial Ownership Reporting Compliance





Section
16(a) of the Exchange Act requires our executive officers, directors and
beneficial owners of more than ten percent (10%) to report their beneficial
ownership of equity interests in the company to the SEC. Their initial reports
are required to be filed using the SEC's Form 3, and they are required to report
subsequent purchases, sales, and other changes using the SEC's Form 4, which
must be filed within two business days of most transactions. Officers,
directors, and persons owning more than 10% of our capital shares are required
by SEC regulations to furnish us with copies of all of reports they file
pursuant to Section 16(a).





Code
of Ethics





We have
adopted Code of Conduct and Ethics (“Code”)  in 2008. For a copy of
the Code, please write to: Mr. Yugang Zhang, CFO, Sino Gas International
Holdings, Inc., No.18 Zhong Guan Cun Dong St., Haidian District, Beijing, P. R.
China 100083.





Item 11. Executive
Compensation





Mr.
Yuchuan Liu was appointed chairman of the board, president and chief executive
officer on September 7, 2006. The compensation amounts paid to Mr. Liu reflect
compensation paid to him by the operating subsidiaries of Sino Gas and its
subsidiaries during the reported periods.


75


Summary
Compensation Table





Name and
                                                                                                Principal
                                                                                                Underlying
                                                                                                Positions
                                                                                              
                                                                                              Year
                                                                                              
                                                                                              Salary
                                                                                              
                                                                                              
                                                                                              Bonus
                                                                                              
                                                                                              
                                                                                              Option
                                                                                                Awards
                                                                                              
                                                                                              
                                                                                              Stock
                                                                                                Awards
                                                                                              
                                                                                              
                                                                                              All Other
                                                                                                Compensation
                                                                                              
                                                                                              
                                                                                              TotalYuchuan Liu-
                                                                                              
                                                                                              2009
                                                                                              
                                                                                              $
                                                                                              110,000
                                                                                              
                                                                                              
                                                                                              $
                                                                                              *65,000
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              $
                                                                                              175,000President
      & CEO
                                                                                              
                                                                                              2008
                                                                                              
                                                                                              $
                                                                                              110,000
                                                                                              
                                                                                              
                                                                                              $
                                                                                              65,000
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              $
                                                                                              175,000Yugang
      Zhang-CFO
                                                                                              
                                                                                              2009
                                                                                              
                                                                                              $
                                                                                              131,500
                                                                                              
                                                                                              
                                                                                              $
                                                                                              *43,500
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              $
                                                                                              175,000(effective
      August 2008)
                                                                                              
                                                                                              2008
                                                                                              
                                                                                              $
                                                                                              47,500
                                                                                              
                                                                                              
                                                                                              $
                                                                                              15,500
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              $
                                                                                              63,000Zhicheng
      Zhou-Chief
                                                                                              
                                                                                              2009
                                                                                              
                                                                                              $
                                                                                              90,000
                                                                                              
                                                                                              
                                                                                              $
                                                                                              *85,000
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              $
                                                                                              175,000Operating
      Officer
                                                                                              
                                                                                              2008
                                                                                              
                                                                                              $
                                                                                              116,000
                                                                                              
                                                                                              
                                                                                              $
                                                                                              59,000
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              
                                                                                              $
                                                                                              175,000





* The bonuses have not
been paid and are estimates only.




The
salary of each officer is part of his agreement with the Company.  The
amounts of the bonuses of the executives are not performance
based.  Each executive is guaranteed compensation paid in Local
Currency Renminbi of approximately $175,000 per year.  At the end of
the calendar year, if the actual paid compensation of an executive for the
calendar year is less than $175,000, the difference shall be paid as a “bonus”
during the following year.  Due to exchange rate fluctuations the
bonus figures listed in the Summary Compensation Table represent estimates
only.




Our
Compensation Committee comprises three members and is responsible for the
administration of all salary, bonus and incentive compensation plans for our
officers and key employees. The members of our Compensation Committee are
Zhongsheng Liu, Guowei Chen and Quandong Sun.





Outstanding
Equity Awards





None.





Equity
Compensation Plan


76




The board
of directors of the Company adopted a stock option plan on November 19, 2007 and
reserved 1,460,000 shares of our common stock as options to be issued under the
plan. No options have been issued under the plan for 2008. The company has
revoked the stock option plan in December, 2008.





Retirement,
Post-Termination and Change in Control Description





The
Company currently does not have retirement, post-termination and change in
control arrangements for its officers.





Compensation
of Directors





Directors
and employees are not currently additionally compensated for their services as a
director.  Our director compensation consists of cash only. Each director
is paid an annual retainer of $10,000. All our directors hold office until the
next annual meeting of our shareholders, and until their successors have been
qualified after being elected or appointed.




Name
                                          
                                          Fees Earned
                                            or Paid in
                                            Cash
                                            (US$)
                                          
                                          
                                          Stock Awards
                                            (US$)
                                          
                                          
                                          Option
                                            Awards
                                            (US$)
                                          
                                          
                                          Non-Equity
                                            Incentive
                                            Plan
                                            Compensation
                                            (US$)
                                          
                                          
                                          Non-Qualified
                                            Deferred
                                            Compensation
                                            Earnings
                                            (US$)
                                          
                                          
                                          All
                                            Other
                                            Compensation
                                            (US$)
                                          
                                          
                                          Total
                                            (US$)Yuchuan
      Liu
                                          
                                          
                                          0
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          0Zhicheng
      Zhou
                                          
                                          
                                          0
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          0Guowei
      Chen
                                          
                                          
                                          10,000
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          10,000Quandong
      Sun
                                          
                                          
                                          10,000
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          10,000Zhongsheng
      Liu
                                          
                                          
                                          10,000
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          
                                          10,000


77


Item 12. Security Ownership of Certain
Beneficial Owners and Management and Related Stockholder
Matters





The
following table sets forth, as of March 30, 2010, certain information with
respect to the beneficial ownership of our equity securities, by (i) any person
or group with more than 5% of any class of our voting securities, (ii) each
director, (iii) our chief executive officer and each other executive officer and
(iv) all executive officers and directors as a group. The table reflects the
ownership of our equity securities by the foregoing parties after the
304.44-for-1 reverse stock-split of our common stock.





As of the
date of this report, we have outstanding (i) 26,769,313shares
of common stock, (ii) no shares of series A convertible preferred stock,
(iii) 4,579,839 shares of series B convertible preferred stock and 95,418
shares of series B-1 preferred stock, (iv) series A warrants to purchase an
aggregate of 241,708 shares of common stock at $3.84 per share, (v) series C
warrants to purchase an aggregate of 3,083,588 shares of common stock at $3.375
per share, (vi) series G warrants to purchase an aggregate of 109,489 shares of
common stock at $3.84 per share, (vii) series F warrants to purchase an
aggregate of 271,074 shares of common stock and (viii) placement agent warrant
to purchase an aggregate of 271,074 shares of common stock. The warrants are
exercisable until September 2012. The placement agent warrant is exercisable
until September 2010. The warrants have cashless exercise provisions entitling
the holders to obtain shares equal to the product of (1) the nominator is the
difference between the market value of all the exercised shares on the date of
exercise and the exercise price of all the exercised shares and (2) the
denominator is the market price per share on the date of exercise.  As
of the date of this report, there are also outstanding 8% senior secured
convertible notes and accompanying warrants to issue 9,746,719 and 3,898,687
shares of the Company’s common stock, respectively.  The senior
secured convertible notes are convertible at $0.62 per share. The warrants are
exercisable until November 30, 2012 at an exercise price of $0.744, and have a
cashless exercise feature if a registration statement covering all of the shares
of common stock issuable upon exercise of the warrants is not effective upon the
18-month anniversary of the issue date of the warrants.





Shares of
Series B convertible preferred stock vote together with shares of common stock
on all matters upon which stockholders are entitled to vote. On those matters
upon which the series B convertible preferred stock votes together with the
common stock as a single class, each share of series B convertible preferred
stock carries a number of votes equal to the number of shares of common stock
that would be issuable upon conversion. Each holder of series B convertible
preferred stock shall be entitled to notice of any stockholders’ meeting in
accordance with our bylaws. Series B-1 preferred stock have the same rights and
privileges as series B preferred stock.





In
determining beneficial ownership of the common stock, the number of shares shown
includes shares which the beneficial owner may acquire upon exercise of warrants
or options which may be acquired within 60 days. In determining the percent of
common stock owned by a person on March 30, 2010, (a) the numerator is the
number of shares of the class beneficially owned by such person, including
shares which the beneficial ownership may acquire within 60 days upon conversion
of the series B convertible preferred stock or exercise of the warrants, option
and conversion of the senior secured convertible notes and accompanying
warrants, and (b) the denominator is the sum of (i) the total shares of that
class outstanding on March 30, 2010, and (ii) the total number of
shares  issuable from the conversion of senior secured convertible
notes and accompanying warrants. Unless otherwise stated, each beneficial owner
has sole power to vote and dispose of the shares.





Except as
otherwise stated, the address of the directors and executive officers listed in
the table is:





c/o
Beijing Zhong Ran Wei Ye Gas Co., Ltd.


N0.18
Zhong Guan Cun Dong St.


Haidian
District


Beijing,
China 10083


78





Amount and Nature of
                                        Beneficial
                                        Ownership
                                      
                                      
                                      Percent of ClassShareholder
                                      
                                      Series
                                        B Preferred
                                        Stock(1)
                                      
                                      
                                      Common
                                        Stock(2)
                                      
                                      
                                      Series
                                        B Preferred Stock
                                      
                                      
                                      Common StockOwner
      of More than 5% of ClassEloten
      Group Ltd.
                                      
                                      
                                      
                                      
                                      
                                      6,524,174
                                      (4)(5)
                                      
                                      
                                      
                                      
                                      
                                      16.4
                                      %Leading
      King Investment Limited
                                      
                                      
                                      
                                      
                                      
                                      5,384,923
                                      (6)(7)
                                      
                                      
                                      
                                      
                                      
                                      13.3
                                      %Vision
      Opportunity Master Fund, Ltd. and Vision Capital Advantage Fund,
      L.P.
                                      
                                      
                                      4,380,413
                                      
                                      
                                      
                                      2,804,446
                                      (8)
                                      
                                      
                                      93.7
                                      %
                                      
                                      
                                      6.9
                                      %T.
      Rowe Price Small-Cap Value Fund, Inc.
                                      
                                      
                                      
                                      
                                      
                                      
                                      2,185,261
                                      (9)
                                      
                                      
                                      
                                      
                                      
                                      
                                      5.4
                                      %Jayhawk
      Private Equity Fund, LP
                                      
                                      
                                      
                                      
                                      
                                      
                                      3,870,458
                                      (10)
                                      
                                      
                                      
                                      
                                      
                                      
                                      9.6
                                      %Directors and Executive
      OfficersYuchuan
      Liu
                                      
                                      
                                      
                                      
                                      
                                      
                                      6,637,043
                                      (4)(5)
                                      
                                      
                                      
                                      
                                      
                                      
                                      16.1
                                      %Quandong
      Sun
                                      
                                      
                                      
                                      
                                      
                                      
                                      5,384,923
                                      (6)(7)
                                      
                                      
                                      
                                      
                                      
                                      
                                      13.3
                                      %Zhimin
      Zhong
                                      
                                      
                                      
                                      
                                      
                                      
                                      393,581
                                      (3)
                                      
                                      
                                      
                                      
                                      
                                      
                                      1.0
                                      %Zhicheng
      Zhou
                                      
                                      
                                      
                                      
                                      
                                      
                                      112,869
                                      (11)
                                      
                                      
                                      
                                      
                                      
                                      
                                      *Shukui
      Bian
                                      
                                      
                                      
                                      
                                      
                                      
                                      173,962
                                      (3)
                                      
                                      
                                      
                                      
                                      
                                      
                                      *Zhongsheng
      Liu
                                      
                                      
                                      
                                      
                                      
                                      
                                      -
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      -Guowei
      Chen
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      -Yugang
      Zhang
                                      
                                      
                                      
                                      
                                      
                                      
                                      112,847
                                      (12)
                                      
                                      
                                      
                                      
                                      
                                      
                                      *Yong
      LiAll
      Directors and Executive Officers
                                      
                                      
                                      
                                      
                                      
                                      
                                      12,815,225
                                      
                                      
                                      
                                      
                                      
                                      
                                      
                                      30.4
                                      %


79


(1) The
Series B convertible preferred stock and the warrants are assumed to be
non-convertible and non-exercisable within 60 days of their date of issuance.
There are conversion restrictions placed on series B preferred stock and
warrants to avoid the series B preferred stock holders and warrant holders
owning more than 9.9% of total common stock for each individual series B
preferred stock holder or warrant holder. Series B preferred stock holder can
waive the restriction upon 61 days notice to the Company. Warrant holders cannot
waive such restriction.





(2) Only
shares of common stock are listed because of restrictions imposed on series B
and B-1 preferred shares and warrants as stated in (1) above.





(3)
Shares of common stock issued to Gas (BVI) as a result of the consummation of
the share exchange agreement are beneficially attributed to each of the Gas
(BVI) shareholders based on each shareholder's percentage ownership interest in
Gas (BVI) immediately prior to execution of the share exchange
agreement.





(4)
Includes 6,524,174 common shares issued upon conversion of series A convertible
preferred stock to Eloten Group Ltd., which are beneficially attributed to Mr.
Liu Yu Chuan. Mr. Liu and his wife hold an aggregate of 100% ownership interest
in Eloten Group Ltd. Also, includes 112,869 common shares issuable upon
conversion of 8% senior secured convertible notes and warrants.





(5)
Includes 108,286 shares of common stock beneficially attributed to Eloten Group
Ltd. based on Eloten Group Ltd.'s ownership interest in Gas (BVI).





(6)
Includes 5,384,923 common shares issued upon conversion of series A convertible
preferred stock to Leading King Investment Limited, which are beneficially
attributed to Mr. Sun Quan Dong. Mr. Sun holds 50% ownership interest in Leading
King Investment Limited.


80


(7)
Includes 89,377 shares of common stock beneficially attributed to Leading King
Investment Limited based on Leading King Investment Limited's ownership interest
in Gas (BVI). Mr. Sun holds a 50% ownership interest in Leading King Investment
Limited.





(8)
According to Schedule 13G/A filed with the SEC on October 2, 2008, Adam Benowitz
is the managing member of Vision Capital Advisors, LLC, investment manager of
both funds, whose address is: 20 W. 55th Street, 5th Floor, New York, NY 10019.
The ownership breakdowns for both Vision Opportunity Master Fund (“VOMF”) and
its affiliate, Vision Capital Advantage Fund (“VCAF”) are as follows: (i) common
stock, VOMF, 2,164,668, VCAF, 639,778; (ii) preferred B stock, VOMF 3,381,107,
VCAF, 999,306.





(9) The
business address is: 100 East Pratt Street, Baltimore, MD 21202.





(10)
Includes 2,276,050 and 910,420 shares of common stock issuable upon conversion
of 8% senior secured convertible notes and accompanying warrants. The business
address is: 5410 W. 61st  Place,
Suite 100, Mission, KS 66205.





(11)
Includes 112,869 common shares issuable upon conversion of 8% senior secured
convertible notes and warrants.





(12)
includes 112,847 common shares issuable upon conversion of 8% senior secured
convertible notes and warrants.





*
indicates less than 1%.





Item 13. Certain Relationships and Related
Transactions, and Director Independence





None.





Item 14. Principal Accounting Fees and
Services





Aggregate
fees billed by the Company's current principal accountants, Samuel H.
Wong & Co., LLP, for audit services related to the most recent fiscal
year, and for other professional services billed in the most recent fiscal
year, were as follows:


81





FISCAL 2009
                              
                              
                              FISCAL 2008Audit
      Fees (1)
                              
                              $
                              126,000
                              
                              
                              
                              105,000Audit-Related
      Fees
                              
                              
                              —
                              
                              
                              
                              —Tax
      Fees (2)
                              
                              
                              —
                              
                              
                              
                              —All
      Other Fees
                              
                              
                              —
                              
                              
                              
                              —Total
                              
                              $
                              126,000
                              
                              
                              
                              105,000





(1)
            Comprised of the audit of the
      Company's annual financial statements and reviews of the Company's
      quarterly  financial  statements,  as well
      as consents related to and reviews of other documents filed with the
      Securities and Exchange
Commission.





(2)
            Comprised  of  preparation  of
      all federal and state corporate income tax returns for the Company and its
      subsidiaries.





ITEM 15. EXHIBITS




Exhibit
              Number3.1
            
            Articles
      of Incorporation, as amended on November 14, 2006 incorporated by
      reference from 10-Q filed on August 20, 2007.3.2*
            
            Bylaws.3.3*
            
            Certificate
      of Designations authorizing the Series A Convertible Preferred
      Stock.3.4*
            
            Amended
      and Restated Certificate of Designations authorizing the Series B
      Convertible Preferred Stock.


82




4.1**
            
            Series
      B Stock Purchase Agreement, dated as of September 7, 2006, by and among,
      Dolce Ventures, Inc., Vision Opportunity Master Fund, Ltd. and each of the
      other investors party thereto.4.2**
            
            Registration
      Rights Agreement, dated as of September 7, 2006, by and between, Dolce
      Ventures, Inc., Vision Opportunity Master Fund, Ltd.4.3**
            
            Lock-Up
      Agreement, dated as of September 7, 2006, by and among, Dolce Ventures,
      Inc., Leading King Investment Limited, Eloten Group, Ltd., Cheng Fang and
      certain other parties named therein.4.4*
            
            Form
      of Series A Warrant.4.5*
            
            Form
      of Series B Warrant.4.6*
            
            Form
      of Series C Warrant.4.7*
            
            Form
      of Series D Warrant.4.8*
            
            Form
      of Series J Warrant.4.9**
            
            Share
      Exchange Agreement dated as of September 7, 2006, by and between, Dolce
      Ventures, Inc., Yu-chuan Liu, and each of the other parties named
      therein.4.10**
            
            Stock
      Purchase Agreement dated as of August 24, 2006, by and between, Gas
      Investment China Co., Ltd. and each of the other parties named
      therein.4.11**
            
            Consulting
      Agreement dated August 8, 2006, by and between Kuhns Brothers, Inc. and
      Dolce Ventures, Inc.4.12**
            
            Engagement
      Letter dated Feb 15, 2006, by and between, Beijing Zhong Ran Wei Ye Gas
      Co., Ltd. and Kuhns Brothers,
Inc.


83




4.13**
            
            Escrow
      Agreement dated September 7, 2006, by and between, Gas Investment China
      Co., Ltd., Vision Opportunity Master Fund, Ltd. and Kramer Levin Naftalis
      & Frankel LLP.4.14****
            
            Securities
      Purchase Agreement dated as of September 7, 2007 by and among the Company
      and the investors named therein.4.15****
            
            Registration
      Rights Agreement dated as of September 7, 2007 by and among the Company
      and the investors named therein.4.16****
            
            Make
      Good Escrow Agreement dated as of September 7, 2007 by and between the
      Company, the investors and Manufacturers and Traders Trust Company, as
      escrow agent.4.17***
            
            Series
      B Stock Purchase Agreement, dated as of October 20, 2006, by and among,
      Dolce Ventures, Inc., and each of the other investors named
      therein.4.18***
            
            Registration
      Rights Agreement, dated as of October 20, 2006, by and between, Dolce
      Ventures, Inc., and each of the other investors named
    therein.4.19***
            
            Form
      of Lock-Up Agreement, by and among, Docle Ventures, Inc., and certain
      other parties named therein.4.20
            
            Securities
      Purchase Agreement dated as of  November 30, 2009, between Sino
      Gas International Holdings, Inc. and certain purchasers incorporated
      by  reference from exhibit 10.1 to Form 8-K/A filed on January
      19, 2010.4.21
            
            Pledge
      Agreement dated as of November 30, 2009 between Sino Gas International
      Holdings, Inc. and certain purchasers incorporated by  reference
      from exhibit 10.2 to Form 8-K filed December 4,
  2009.


84




4.22
            
            Guaranty
      dated as of November 30, 2009 between Chairman and CEO of Sino Gas
      International Holding, Inc. and certain purchasers incorporated
      by  reference from exhibit 10.3 to Form 8-K filed December 4,
      2009.4.23
            
            Voting
      Agreement dated as of November 30, 2009 between a majority of the
      outstanding common stock of Sino Gas International Holding, Inc.
      and  certain purchasers incorporated by  reference
      from exhibit 10.4 to Form 8-K filed December 4, 2009.4.24
            
            Form
      of Lock-Up Agreement between Yuchuan Liu, CEO of Sino Gas International
      Holding, Inc. and certain purchasers incorporated by  reference
      from exhibit 10.5 to Form 8-K filed December 4, 2009.10.1
            
            Urban
      Gas Development Agreement with Jinzhou Town incorporated by reference from
      SB-2 filed on January 11, 2008, file number 333-147998.10.2
            
            Municipal
      Public Utilities Franchise Agreement with Yutian County incorporated by
      reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.3
            
            Urban
      Gas Development Agreement with Yutian County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.4
            
            Urban
      Gas Development Agreement with Wuqiao County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.5
            
            The
      Agreement on Developing the Pipeline Gas Project with Xintang County
      incorporated by reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.6
            
            Urban
      Gas Development Agreement with Linzhang County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.7
            
            Urban
      Gas Development Agreement with Ningjin County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.




85




10.8
            
            Urban
      Gas Development Agreement with Luquan County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.9
            
            Gas
      Supply Contract- Henan Zhongyuan Lvneng High-Tech Co., Ltd incorporated by
      reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.10
            
            Gas
      Supply Contract-PetroChina Huabei Oilfield Company incorporated by
      reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.11
            
            Gas
      Supply Contract-Tianjin Dagang Oilfield Transportation Co., Ltd
      incorporated by reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.12
            
            Gas
      Supply Contract-Hebei Natural Gas Co., Ltd incorporated by reference from
      SB-2 filed on January 11, 2008, file number 333-147998.10.13
            
            Gas
      Supply Contract-Xinjiang Guanghui LNG Development Co., Ltd incorporated by
      reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.14
            
            Pipe
      Gas Franchise Agreement for Baishan City incorporated by reference from
      SB-2 filed on January 11, 2008, file number 333-147998.10.15
            
            Pipe
      Gas Franchise Agreement for Si County incorporated by reference from SB-2
      filed on January 11, 2008, file number 333-147998.10.16
            
            Pipe
      Gas Franchise Agreement for Xiahuayuan District incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.17
            
            Pipe
      Gas Franchise Agreement for Yu County incorporated by reference from SB-2
      filed on January 11, 2008, file number
  333-147998.


86




10.18
            
            Pipe
      Gas Franchise Agreement for Wuhe County incorporated by reference from
      SB-2 filed on January 11, 2008, file number 333-147998.10.19
            
            Pipe
      Gas Franchise Agreement for Zaoqiang County incorporated by reference from
      SB-2 filed on January 11, 2008, file number 333-147998.10.20
            
            The
      Cooperation Agreement on Gas Project in Xinji Town incorporated by
      reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.21
            
            The
      Cooperation Agreement with Chengan County incorporated by reference from
      SB-2 filed on January 11, 2008, file number 333-147998.10.22
            
            Urban
      Gas Development Agreement with Nangong Town incorporated by reference from
      SB-2 filed on January 11, 2008, file number 333-147998.10.23
            
            Pipe
      Gas Franchise Agreement for Pei County incorporated by reference from SB-2
      filed on January 11, 2008, file number 333-147998.10.24
            
            Urban
      Gas Development Agreement with Gucheng County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.25
            
            Urban
      Pipe Natural Gas Project Development Agreement with Sihong County
      incorporated by reference from SB-2 filed on January 11, 2008, file number
      333-147998.10.26
            
            Urban
      Gas Development Agreement with Changli County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.


87




10.27
              
              Urban
      Gas Development Agreement with Shenzhou Town incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.28
              
              Urban
      Gas Development Agreement with Longyao County incorporated by reference
      from SB-2 filed on January 11, 2008, file number
    333-147998.10.29
              
              Shareholders’
      Agreement among  Yunnan Investment Group, Sino Gas International
      Holdings, Inc. and Qujing Development Investment Co. Ltd. dated April 22,
      2008.10.30
              
              Equity
      Interest Transfer Agreement dated among Beijing Zhong Ran Wei Ye Gas Co.
      Ltd. Wuhan ShiCheng Estate Development Co. Ltd. and Song Tiegang etc.
      dated April 23, 2008.16.1*
              
              Letter
      dated September 7, 2006 from Dolce Ventures, Inc. to Robison, Hill &
      Co.16.2*
              
              Letter
      dated September 12, 2006 from Robison, Hill & Co. to the
      SEC.21.1
              
              List
      of Subsidiaries.23.1
              
              Consent
      of Samuel Wong & Co. PC.31.1
              
              Certification
      of Chief Executive Officer pursuant to Section 302 of the Sarbanes-Oxley
      Act of 2002.31.2
              
              Certification
      of Chief Financial Officer pursuant to Section 302 of the Sarbanes-Oxley
      Act of 2002.32.1
              
              Certification
      of Chief Executive Officer and Chief Financial Officer pursuant
      to 18 U.S.C. Section 1350, as adopted pursuant to Section 906 of the
      Sarbanes-Oxley Act of 2002.*
              
              Incorporated
      by reference from Form 8-K filed September 7,
2006.**
              
              Incorporated
      by reference from Form 8-K/A filed on November 28,
2007.***
              
              Incorporated
      by reference from Form 8-K/A filed on November 27,
2007.****
              
              Incorporated
      by reference from Form 8-K filed September 13,
  2007.


88


SIGNATURES





Pursuant
to the requirements of Section 13 or 15(d) of the Securities Exchange Act of
1934, the Registrant has duly caused this Report to be signed on its behalf by
the undersigned, thereunto duly authorized.




SINO GAS INTERNATIONAL HOLDINGS, INC.Date:February 7,
      2011
            By:
            /s/Yuchuan LiuYuchuan
      LiuChairman of the Board, Director,
              President and Chief Executive Officer





89








Signatures
            
            Title
            
            Date/s/ Yuchuan Liu
            
            Chief
      Executive Officer and Director
            
            February7,
      2011Yuchuan
      Liu
            
            (Principal
      Executive Officer)/s/ Yugang Zhang
            
            Chief
      Financial Officer
            
            February7,
      2011Yugang
      Zhang
            
            (Principal
      Accounting Officer)/s/ Guowei Chen
            
            Director
            
            February7,
      2011Guowei
      Chen/s/ Quandong Sun
            
            Director
            
            February7,
      2011Quandong
      Sun/s/ Zhongsheng Liu
            
            Director
            
            February7,
      2011Zhongsheng
      Liu/s/ Zhicheng Zhou
            
            Director
      and Chief Operating Officer
            
            February7,
      2011Zhicheng
      Zhou


90


Sino
Gas International Holdings, Inc.





Audited
Consolidated Financial Statements





December
31, 2009 and 2008





(Stated
in US Dollars)





Sino Gas International
Holdings, Inc.





Content
              
              PageReport
      of Independent Registered Public Accounting Firm
              
              F-1Consolidated
      Balance Sheets
              
              F-2
      - F-3Consolidated
      Statements of Income
              
              F-4Consolidated
      Statements of Stockholders’ Equity
              
              F-5
      - F-6Consolidated
      Statements of Cash Flows
              
              F-7Notes
      to Consolidated Financial Statements
              
              F-8
      - F-42









To: The Board of Directors and Stockholders
of





Sino Gas
International Holdings, Inc.




Report of Independent
Registered Public Accounting Firm





We have
audited the accompanying consolidated balance sheets of Sino Gas International
Holdings, Inc. as of December 31, 2009 and 2008, and the related consolidated
statements of income, stockholders' equity, and cash flows for the years then
ended.  These financial statements are the responsibility of the
Company's management. Our responsibility is to express an opinion on these
financial statements based on our audits.





We
conducted our audits in accordance with the standards of the Public Company
Accounting Oversight Board (United States). Those standards require that we plan
and perform the audit to obtain reasonable assurance about whether the financial
statements are free of material misstatement. An audit includes examining, on a
test basis, evidence supporting the amounts and disclosures in the financial
statements. An audit also includes assessing the accounting principles used and
significant estimates made by management, as well as evaluating the overall
financial statement presentation. We believe that our audits provide a
reasonable basis for our opinion.





In our
opinion, the financial statements referred to above present fairly, in all
material respects, the financial position of Sino Gas International Holdings,
Inc as of December 31, 2009 and 2008, and the results of its operations and its
cash flows for each of the years then ended in conformity with accounting
principles generally accepted in the United States of America.





South
      San Francisco, California
              Samuel
      H. Wong & Co., LLPFebruary
      11, 2010
              Certified
      Public Accountants


F-1


Sino
Gas International Holdings, Inc.




Consolidated
Balance Sheets




As
of December 31, 2009 and 2008




(Stated
in US Dollars)





Notes
                            
                            12/31/2009
                            
                            
                            12/31/2008ASSETSCurrent AssetsCash
      & cash equivalents
                            2(e)
                            
                            $
                            9,820,890
                            
                            
                            $
                            3,027,543Restricted
      cash
                            3
                            
                            
                            126,400
                            
                            
                            
                            234,279Notes
      receivable
                            
                            
                            
                            351,021
                            
                            
                            
                            109,422Accounts
      receivable
                            2(f),4
                            
                            
                            5,036,609
                            
                            
                            
                            6,013,621Inventory
                            
                            
                            
                            416,931
                            
                            
                            
                            347,341Advance
      to suppliers
                            2(g)
                            
                            
                            4,814,420
                            
                            
                            
                            3,024,518Prepayment
      and others
                            
                            
                            
                            446,840
                            
                            
                            
                            370,593Other
      receivables
                            2(f)
                            
                            
                            1,686,115
                            
                            
                            
                            3,028,368Total
      Current Assets
                            
                            
                            
                            22,699,226
                            
                            
                            
                            16,155,686Non-Current AssetsInvestment
                            2(h),5
                            
                            
                            7,031,333
                            
                            
                            
                            5,159,009Property,
      plant & equipment, net
                            2(j),6
                            
                            
                            47,772,011
                            
                            
                            
                            33,033,118Construction
      in progress
                            2(l)
                            
                            
                            13,357,395
                            
                            
                            
                            17,155,473Intangible
      assets, net
                            2(k),7
                            
                            
                            2,217,699
                            
                            
                            
                            2,193,252Total
      Non-current Assets
                            
                            
                            
                            70,378,438
                            
                            
                            
                            57,540,852Total
      Assets
                            
                            
                            $
                            93,077,664
                            
                            
                            $
                            73,696,538LIABILITIES
      & STOCKHOLDERS' EQUITYLIABILITIESCurrent LiabilitiesBank
      loans
                            8
                            
                            $
                            2,925,174
                            
                            
                            $
                            2,188,439Accounts
      payable
                            
                            
                            
                            8,560,120
                            
                            
                            
                            6,350,092Other
      payables
                            9
                            
                            
                            6,339,571
                            
                            
                            
                            6,174,871Accrued
      liabilities
                            
                            
                            
                            453,335
                            
                            
                            
                            189,090Unearned
      revenue
                            2(m)
                            
                            
                            620,860
                            
                            
                            
                            938,696Total
      Current Liabilities
                            
                            
                            
                            18,899,060
                            
                            
                            
                            15,841,188Non-current LiabilitiesLong-term
      bank loans
                            8
                            
                            
                            6,581,641
                            
                            
                            
                            -Non-current
      Convertible Bonds
                            10
                            
                            
                            4,329,101
                            
                            
                            
                            -Total
      Liabilities
                            
                            
                            $
                            29,809,802
                            
                            
                            $
                            15,841,188





See
Accompanying Notes to Financial Statements and Accountant’s
Report


F-2


Sino
Gas International Holdings, Inc.




Consolidated
Balance Sheets




As
of December 31, 2009 and 2008




(Stated
in US Dollars)





Notes
                    
                    12/31/2009
                    
                    
                    12/31/2008STOCKHOLDERS'
      EQUITYPreferred
      Stock B US$0.001 par value; 5,000,000 shares authorized; 4,579,839 and
      4,971,859 shares issued and outstanding as of December 31, 2009 and 2008
      respectively.
                    11
                    
                    $
                    4,580
                    
                    
                    $
                    4,580Additional
      paid in capital - Preferred Stock B
                    
                    
                    
                    5,323,972
                    
                    
                    
                    5,323,972Preferred
      Stock B-1 US$0.001 par value; 3,000,000 shares authorized; 95,418 and
      95,418 shares issued and outstanding as of December 31, 2009 and 2008
      respectively
                    11
                    
                    
                    95
                    
                    
                    
                    95Additional
      paid in capital - Preferred Stock B-1
                    
                    
                    
                    132,662
                    
                    
                    
                    132,662Common
      Stock US$0.001 par value; 250,000,000 shares authorized; 26,769,313 and
      25,269,313 shares issued and outstanding as of December 31, 2009 and 2008
      respectively.
                    11
                    
                    
                    26,769
                    
                    
                    
                    25,269Additional
      paid in capital - Common Stock
                    
                    
                    
                    22,513,732
                    
                    
                    
                    23,196,304Additional
      paid in capital - Warrants Series: A, B, J, C, D
                    
                    
                    
                    311,110
                    
                    
                    
                    311,110Additional
      paid in capital - Warrants Series: E, G
                    
                    
                    
                    47,946
                    
                    
                    
                    47,946Additional
      paid in capital - Warrants Series: F, R
                    
                    
                    
                    107,652
                    
                    
                    
                    107,652Additional
      paid in capital - Convertible Bonds Detachable Warrants
                    
                    
                    
                    223,367
                    
                    
                    
                    -Additional
      paid in capital - Beneficial Conversion Feature
                    
                    
                    
                    8,094,814
                    
                    
                    
                    7,002,292Statutory
      reserve
                    2(v)
                    
                    
                    4,612,191
                    
                    
                    
                    3,956,728Retained
      earnings
                    
                    
                    
                    14,143,089
                    
                    
                    
                    10,069,896Accumulated
      other comprehensive income
                    2(x)
                    
                    
                    7,725,883
                    
                    
                    
                    7,676,844Total
      Stockholders' Equity
                    
                    
                    
                    63,267,862
                    
                    
                    
                    57,855,350Total
      Liabilities & Stockholders' Equity
                    
                    
                    $
                    93,077,664
                    
                    
                    $
                    73,696,538





See
Accompanying Notes to Financial Statements and Accountant’s
Report


F-3


Sino
Gas International Holdings, Inc.




Consolidated
Statements of Income




For
the year ended December 31, 2009 and 2008




(Stated
in US Dollars)





Notes
                    
                    2009
                    
                    
                    2008Sales
                    
                    
                    $
                    27,591,501
                    
                    
                    $
                    21,448,488Cost
      of revenue
                    
                    
                    
                    (18,117,500
                    )
                    
                    
                    (13,978,508
                    )Gross
      Profit
                    
                    
                    
                    9,474,001
                    
                    
                    
                    7,469,980Operating ExpensesSelling
      expenses
                    
                    
                    
                    (1,032,629
                    )
                    
                    
                    (1,136,867
                    )General
      and administrative expenses
                    
                    
                    
                    (3,374,896
                    )
                    
                    
                    (3,643,531
                    )Total
      operating expenses
                    
                    
                    
                    (4,407,525
                    )
                    
                    
                    (4,780,398
                    )Operating
      Income
                    
                    
                    
                    5,066,476
                    
                    
                    
                    2,689,582Other Income/(Expense)Investment
      income
                    2(q),5
                    
                    
                    461,014
                    
                    
                    
                    417,264Other
      income
                    
                    
                    
                    64,774
                    
                    
                    
                    17,179Other
      expense
                    17
                    
                    
                    (36,214
                    )
                    
                    
                    (545,612
                    )Interest
      income
                    
                    
                    
                    75,302
                    
                    
                    
                    113,884Interest
      expense
                    10
                    
                    
                    (489,111
                    )
                    
                    
                    (187,999
                    )Total
      other income/(expense)
                    
                    
                    
                    75,765
                    
                    
                    
                    (185,283
                    )Earnings
      from continued operation
                    
                    
                    
                    5,142,241
                    
                    
                    
                    2,504,299Income
      tax
                    2(r),11
                    
                    
                    (1,094,657
                    )
                    
                    
                    (903,806
                    )Net
      income
                    
                    
                    $
                    4,047,584
                    
                    
                    $
                    1,600,493Income
      available to common stockholders for basic EPS
                    
                    
                    $
                    4,047,584
                    
                    
                    $
                    1,600,493Interest
      expense for convertible bonds, net of
    tax
                    
                    
                    
                    234,180
                    
                    
                    
                    -Income
      available to common stockholders for diluted EPS
                    
                    
                    $
                    4,281,764
                    
                    
                    $
                    1,600,493Earnings
      Per Share
                    2(z),16Basic
                    
                    
                    $
                    0.15
                    
                    
                    $
                    0.06Diluted
                    
                    
                    $
                    0.14
                    
                    
                    $
                    0.05Weighted
      Average Shares Outstanding
                    16Basic
                    
                    
                    
                    26,235,980
                    
                    
                    
                    25,115,675Diluted
                    
                    
                    
                    30,815,819
                    
                    
                    
                    29,944,548





See
Accompanying Notes to Financial Statements and Accountant’s
Report


F-4


Sino
Gas International Holdings, Inc.




Consolidated
Statements of Stockholders’ Equity




As
of and for the year ended December 31, 2009 and 2008




(Stated
in US Dollars)





Preferred Stock B
                  
                  
                  Preferred Stock B-1
                  
                  
                  Common StockShares
                    Outstanding
                  
                  
                  Amount
                  
                  
                  Additional Paid In
                    Capital-Preferred
                    Stock B
                  
                  
                  Shares
                    Outstanding
                  
                  
                  Amount
                  
                  
                  Additional Paid In
                    Capital-Preferred
                    Stock B-1
                  
                  
                  Shares
                    Outstanding
                  
                  
                  Amount
                  
                  
                  Additional Paid In
                    Capital-Common
                    StockBalance
      at January 1, 2008
                  
                  
                  4,971,859
                  
                  
                  
                  4,972
                  
                  
                  
                  5,323,972
                  
                  
                  
                  95,418
                  
                  
                  
                  95
                  
                  
                  
                  132,662
                  
                  
                  
                  24,877,271
                  
                  
                  
                  24,877
                  
                  
                  
                  23,196,304Net
      Income
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Conversion
      of Preferred Stock B to Common Stock
                  
                  
                  (392,020
                  )
                  
                  
                  (392
                  )
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  392,020
                  
                  
                  
                  392
                  
                  
                  
                  -Issuance
      of Common Stock
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  22
                  
                  
                  
                  -
                  
                  
                  
                  -Appropriation
      of Retained Earnings
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Foreign
      Currency Translation Adjustment
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Balance
      at December 31, 2008
                  
                  
                  4,579,839
                  
                  
                  
                  4,580
                  
                  
                  
                  5,323,972
                  
                  
                  
                  95,418
                  
                  
                  
                  95
                  
                  
                  
                  132,662
                  
                  
                  
                  25,269,313
                  
                  
                  
                  25,269
                  
                  
                  
                  23,196,304Balance
      at January 1, 2009
                  
                  
                  4,579,839
                  
                  
                  
                  4,580
                  
                  
                  
                  5,323,972
                  
                  
                  
                  95,418
                  
                  
                  
                  95
                  
                  
                  
                  132,662
                  
                  
                  
                  25,269,313
                  
                  
                  
                  25,269
                  
                  
                  
                  23,196,304Net
      Income
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Issuance
      of 2007 Make Good Common Stock
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  1,500,000
                  
                  
                  
                  1,500
                  
                  
                  
                  (1,500
                  )Re-allocation
      of Beneficial Conversion Feature
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  (681,072
                  )Issuance
      of Convertible Bonds
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Appropriate
      of Retained Earnings
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Foreign
      Currency Translation Adjustment
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -
                  
                  
                  
                  -Balance
      at December 31, 2009
                  
                  
                  4,579,839
                  
                  
                  
                  4,580
                  
                  
                  
                  5,323,972
                  
                  
                  
                  95,418
                  
                  
                  
                  95
                  
                  
                  
                  132,662
                  
                  
                  
                  26,769,313
                  
                  
                  
                  26,769
                  
                  
                  
                  22,513,732





See
Accompanying Notes to Financial Statements and Accountant’s
Report


F-5




Sino
Gas International Holdings, Inc.




Consolidated
Statements of Stockholders’ Equity




As
of and for the year ended December 31, 2009 and 2008




(Stated
in US Dollars)




Common StockAdditional Paid in
                      Capital-Warrants
                      Series: A,B,J,C,D
                    
                    
                    Additional Paid in
                      Capital-Warrants
                      Series: E,G
                    
                    
                    Additional Paid in
                      Capital-Warrants
                      Series: F,R
                    
                    
                    Additional Paid in
                      Capital-
                      Convertible Bonds
                      Detachable Warrants
                    
                    
                    Additional Paid in
                      Capital-Beneficial
                      Conversion Feature
                    
                    
                    Statutory
                      Reserve
                    
                    
                    Retained
                      Earnings
                    
                    
                    Accumulated Other
                      Comprehensive
                      Income
                    
                    
                    TotalBalance
      at January 1, 2008
                    
                    
                    311,110
                    
                    
                    
                    47,946
                    
                    
                    
                    107,652
                    
                    
                    
                    -
                    
                    
                    
                    7,002,292
                    
                    
                    
                    3,258,201
                    
                    
                    
                    9,167,930
                    
                    
                    
                    2,268,593
                    
                    
                    
                    50,846,606Net
      Income
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    1,600,493
                    
                    
                    
                    -
                    
                    
                    
                    1,600,493Conversion
      of Preferred Stock B to Common Stock
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Issuance
      of Common Stock
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Appropriation
      of Retained Earnings
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    698,527
                    
                    
                    
                    (698,527
                    )
                    
                    
                    -
                    
                    
                    
                    -Foreign
      Currency Translation Adjustment
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    5,408,250
                    
                    
                    
                    5,408,250Balance
      at December 31, 2008
                    
                    
                    311,110
                    
                    
                    
                    47,946
                    
                    
                    
                    107,652
                    
                    
                    
                    -
                    
                    
                    
                    7,002,292
                    
                    
                    
                    3,956,728
                    
                    
                    
                    10,069,896
                    
                    
                    
                    7,676,844
                    
                    
                    
                    57,855,350Balance
      at January 1, 2009
                    
                    
                    311,110
                    
                    
                    
                    47,946
                    
                    
                    
                    107,652
                    
                    
                    
                    -
                    
                    
                    
                    7,002,292
                    
                    
                    
                    3,956,728
                    
                    
                    
                    10,069,896
                    
                    
                    
                    7,676,844
                    
                    
                    
                    57,855,350Net
      Income
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    4,047,584
                    
                    
                    
                    -
                    
                    
                    
                    4,047,584Issuance
      of 2007 Make Good Common Stock
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Re-allocation
      of Beneficial Conversion Feature
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    681,072
                    
                    
                    
                    -
                    
                    
                    
                    -Issuance
      of Convertible Bonds
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    223,367
                    
                    
                    
                    1,092,522
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    1,315,889Appropriate
      of Retained Earnings
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    655,463
                    
                    
                    
                    (655,463
                    )
                    
                    
                    -
                    
                    
                    
                    -Foreign
      Currency Translation Adjustment
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    49,039
                    
                    
                    
                    49,039Balance
      at December 31, 2009
                    
                    
                    311,110
                    
                    
                    
                    47,946
                    
                    
                    
                    107,652
                    
                    
                    
                    223,367
                    
                    
                    
                    8,094,814
                    
                    
                    
                    4,612,191
                    
                    
                    
                    14,143,089
                    
                    
                    
                    7,725,883
                    
                    
                    
                    63,267,862




2008
                        
                        
                        2009
                        
                        
                        TotalComprehensive
      IncomeNet
      Income
                        
                        $
                        1,600,493
                        
                        
                        $
                        4,047,584
                        
                        
                        $
                        5,648,077Other
      Comprehensive IncomeForeign
      Currency Translation Adjustment
                        
                        
                        5,408,250
                        
                        
                        
                        49,039
                        
                        
                        
                        5,457,289Total
                        
                        $
                        7,008,743
                        
                        
                        $
                        4,096,623
                        
                        
                        $
                        11,105,366




See
Accompanying Notes to Financial Statements and Accountant’s
Report


F-6




Sino
Gas International Holdings, Inc.




Consolidated
Statements of Cash Flows




For
the year ended December 31, 2009 and 2008




(Stated
in US Dollars)




2009
                
                
                2008Cash Flows
      from Operating ActivitiesNet
      Income
                
                $
                4,047,584
                
                
                $
                1,600,493Depreciation
      expense
                
                
                1,179,860
                
                
                
                1,495,682Amortization
      expense
                
                
                32,306
                
                
                
                88,341Withdraw
      in restricted time deposits
                
                
                107,879
                
                
                
                244,641Decrease/(increase)
      in accounts and other receivables
                
                
                2,077,666
                
                
                
                2,089,656Increase
      in inventory
                
                
                (69,590
                )
                
                
                (139,365
                )Increase
      in prepaid expenses
                
                
                (1,866,148
                )
                
                
                (3,047,361
                )Increase
      in accounts and other payables
                
                
                2,321,136
                
                
                
                1,877,550Cash
      Sourced/(Used) in Operating Activities
                
                
                7,830,693
                
                
                
                4,209,638Cash
      Flows from Investing ActivitiesIncrease
      of investment
                
                
                (1,872,324
                )
                
                
                (1,151,699
                )Purchase
      of property, plant, and equipment
                
                
                (15,918,753
                )
                
                
                (9,956,236
                )Increase
      of goodwill
                
                
                -
                
                
                
                (115,774
                )Purchase
      of other intangible asset
                
                
                (56,752
                )
                
                
                (137,570
                )(Increase)/decrease
      in construction in progress
                
                
                3,798,077
                
                
                
                (5,598,651
                )Cash
      Sourced/(Used) in Investing Activities
                
                
                (14,049,752
                )
                
                
                (16,959,930
                )Cash
      Flows from Financing ActivitiesProceeds/(settlement)
      of bank loans
                
                
                7,318,376
                
                
                
                (546,005
                )Proceeds
      from issuance of convertible bonds
                
                
                6,042,966
                
                
                
                -Discount
      of convertible bonds
                
                
                (1,713,866
                )
                
                
                -Increase
      in additional paid in capital from issuance of convertible
      bonds
                
                
                1,315,890
                
                
                
                -Cash
      Sourced/(Used) in Financing Activities
                
                
                12,963,366
                
                
                
                (546,005
                )Increase/(decrease)
      in cash & cash equivalents for the year
                
                
                6,744,307
                
                
                
                (13,296,297
                )Effect
      of currency translation on cash and cash equivalents
                
                
                49,040
                
                
                
                5,408,250Cash
      & cash equivalents at the beginning of year
                
                
                3,027,543
                
                
                
                10,915,590Cash
      & cash equivalents at the end of year
                
                $
                9,820,890
                
                
                $
                3,027,543Supplementary
      cash flow informationInterest
      received
                
                $
                75,302
                
                
                $
                113,884Interest
      paid
                
                $
                254,931
                
                
                $
                187,999Income
      tax paid
                
                $
                1,324,184
                
                
                $
                1,317,079





See
Accompanying Notes to Financial Statements and Accountant’s
Report


F-7


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




1.
            ORGANIZATION AND PRINCIPAL
      ACTIVITIES




Sino Gas
International Holdings, Inc. (the “Company”) was incorporated under the laws of
the State of Utah on August 19, 1983 as Evica Resources, Inc.  The
Company changed its name to American Arms, Inc. on April 5, 1984, and then
changed its name to Dolce Ventures, Inc. on May 21, 2002, and ultimate changed
its name to Sino Gas International Holdings, Inc. on November 17,
2006.




On
September 7, 2006, the Company underwent a reverse-merger with Gas Investment
China Ltd. (“GIC”), an International Business Company incorporated in the
British Virgin Islands, and its wholly-owned subsidiaries, involving an exchange
of shares whereby the Company issued an aggregate of 14,361,646 shares to the
shareholders of GIC in exchange for all of the issued and outstanding shares of
GIC.  For financial reporting purposes, this transaction is classified
as a recapitalization of Sino Gas International Holdings, Inc. (Legal acquirer,
accounting acquiree) and the historical financial statements of Gas Investment
China Co. Ltd. (Legal acquiree, accounting acquirer)




The
Company is a natural gas services operator, principally engaging in the
investment, operation, and management of city gas pipeline infrastructure, in
the distribution of natural gas to residential and industrial users, in the
construction and operation gas stations, and in the development and application
of natural gas related technologies. The Company owns and operates 39 natural
gas distribution systems serving approximately 145,000 residential and seven
industrial customers. The Company’s facilities include approximately 1040
kilometers of pipeline and delivery networks (including delivery trucks) with a
daily capacity of approximately 110,000 cubic meters of natural
gas.




The
common stock of the Company is currently quoted on the National Association of
Securities Dealers' Over-the-Counter Bulletin Board under the symbol
“SGAS”.




Basis of Presentation and
Organization




The
Company’s consolidated financial statements have been prepared in accordance
with generally accepted accounting principles in the United States of America
(“US GAAP”).




This
basis of accounting differs in certain material respects from that used for the
preparation of the books of account of the Company’s principal subsidiaries,
which are prepared in accordance with the accounting principles and the relevant
financial regulations applicable to enterprises with limited liabilities
established in the PRC (“PRC GAAP”) or in the accounting standards used in the
places of their domicile. The accompanying consolidated financial statements
reflect necessary adjustments not recorded in the books of account of the
Company’s subsidiaries to present them in conformity with US GAAP.




F-8


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




2.
            SUMMARY OF SIGNIFICANT ACCOUNTING
      POLICIES




(a)
Method of
Accounting




The
Company maintains its general ledger and journals with the accrual method
accounting for financial reporting purposes. The financial statements and notes
are representations of management. Accounting policies adopted by the Company
conform to generally accepted accounting principles in the United States of
America and have been consistently applied in the presentation of financial
statements, which are compiled on the accrual basis of accounting.




(b)
Use of
estimates




The
preparation of the financial statements in conformity with generally accepted
accounting principles in the United States of America requires management to
make estimates and assumptions that affect the reported amounts of assets and
liabilities and disclosure of contingent assets and liabilities at the date of
the financial statements and the reported amounts of revenues and expenses
during the reporting periods. Management makes these estimates using the best
information available at the time the estimates are made; however, actual
results could differ materially from those estimates.




(c) Economic
and political risks




The
Company’s operations are conducted in the PRC. Accordingly, the Company’s
business, financial condition, and results of operations may be influenced by
the political, economic, and legal environment in the PRC, and by the general
state of the PRC economy.




The
Company’s operations in the PRC are subject to special considerations and
significant risks not typically associated with companies in North America and
Western Europe.  These include risks associated with, among others,
the political, economic and legal environment, and foreign currency exchange.
The Company’s results may be adversely affected by changes in the political and
social conditions in the PRC, and by changes in governmental policies with
respect to law and regulations, anti-inflationary measures, currency conversion,
remittances abroad, and rates and methods of taxation, among other
things.





F-9


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




(d)
Principles of
Consolidation




The
consolidated financial statements include the accounts of the Company and its
subsidiaries (“the Group”). Significant inter-company transactions have been
eliminated in consolidation. Investments in which the company has a 20 percent
to 50 percent voting interest and where the company exercises significant
influence over the investor are accounted for using the equity
method.




The
Company owned its subsidiaries soon after its inception and continued to acquire
and own the equity interests throughout the reporting periods. The following
table depicts the identities of the consolidating subsidiaries as of December
31, 2009.




Name of Company
                          
                          Place of
                            Incorporation
                          
                          Date of
                            Incorporation
                          
                          Beneficiary
                            Interest %
                          
                          
                          Equity
                            Interest %
                          
                          
                          Registered
                            CapitalGAS Investment
      China Co., Ltd.
                          
                          The
      British Virgin Islands
                          
                          6/19/2003
                          
                          
                          100
                          
                          
                          
                          100
                          
                          
                          USD
                          10,000,000Sino
      Gas Construction, Ltd.
                          
                          The
      British Virgin Islands
                          
                          1/9/2007
                          
                          
                          100
                          
                          
                          
                          100
                          
                          
                          USD
                          50,000Sino
      Gas Investment Development, Ltd.
                          
                          The
      British Virgin Islands
                          
                          1/9/2007
                          
                          
                          100
                          
                          
                          
                          100
                          
                          
                          USD
                          50,000Beijing
      Zhong Ran Wei Ye Gas Co., Ltd.
                          
                          PRC
                          
                          8/29/2001
                          
                          
                          100
                          
                          
                          
                          100
                          
                          
                          RMB
                          206,000,000Beijing
      Chenguang Gas, Ltd.
                          
                          PRC
                          
                          10/30/2002
                          
                          
                          100
                          
                          
                          
                          100
                          
                          
                          RMB
                          20,000,000Guannan
      Weiye Gas Co., Ltd.
                          
                          PRC
                          
                          6/19/2003
                          
                          
                          100
                          
                          
                          
                          100
                          
                          
                          RMB
                          9,510,000




F-10


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Ningjin Weiye Gas Co., Ltd
                    
                    PRC
                    
                    12/3/2003
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    3,000,000Yutian
      Zhongran Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    12/19/2003
                    
                    
                    100
                    
                    
                    
                    90
                    
                    
                    RMB
                    3,000,000Xingtang
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    2/18/2004
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    3,000,000Wuqiao
      Gas Co., Ltd.
                    
                    PRC
                    
                    6/30/2004
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    2,000,000Jinzhou
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    7/19/2004
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    5,000,000Sihong
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    12/3/2004
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    10,000,000Sishui
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    12/22/2004
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    3,000,000Langfang
      Weiye Dangerous Goods Transportation Co., Ltd.
                    
                    PRC
                    
                    3/22/2005
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    1,000,000Linzhang
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    7/6/2005
                    
                    
                    100
                    
                    
                    
                    85
                    
                    
                    RMB
                    1,000,000Peixian
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    8/22/2005
                    
                    
                    100
                    
                    
                    
                    90
                    
                    
                    RMB
                    5,000,000Zhangjiakou
      City Xiahuayuan Jinli Gas Co., Ltd.
                    
                    PRC
                    
                    9/30/2005
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    2,000,000Longyao
      Zhongran Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    10/13/2005
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    3,000,000




F-11




Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Yuxian
      Jinli Gas Co., Ltd.
                    
                    PRC
                    
                    11/8/2005
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    9,500,000Hengshui
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    12/20/2005
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    3,000,000Shenzhou
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    12/23/2005
                    
                    
                    100
                    
                    
                    
                    95
                    
                    
                    RMB
                    3,000,000Changli
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    12/8/2006
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    3,000,000Chenan
      Chenguang Gas Co., Ltd
                    
                    PRC
                    
                    1/23/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    1,500,000Wuhe
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    1/30/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    3,000,000Xinji
      Zhongchen Gas Co., Ltd
                    
                    PRC
                    
                    2/7/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    3,000,000Gucheng
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    3/21/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    3,000,000Luquan
      Chenguang Gas Co., Ltd.
                    
                    PRC
                    
                    4/27/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    2,000,000Shijiazhuang
      Chenguang Gas Co., Ltd.
                    
                    PRC
                    
                    6/14/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    2,000,000Nangong
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    6/25/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    3,000,000Sixian
      Weiye Gas Co., Ltd.
                    
                    PRC
                    
                    9/3/2007
                    
                    
                    100
                    
                    
                    
                    100
                    
                    
                    RMB
                    3,000,000




F-12




Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Baishan
      Weiye Gas Co., Ltd.
                                
                                PRC
                                
                                7/13/2007
                                
                                
                                100
                                
                                
                                
                                100
                                
                                
                                RMB
                                15,000,000Guyuan
      Gas Co., Ltd.
                                
                                PRC
                                
                                12/15/2008
                                
                                
                                100
                                
                                
                                
                                100
                                
                                
                                RMB
                                1,000,000Xinhe
      Weiye Gas Co., Ltd.
                                
                                PRC
                                
                                7/2/2009
                                
                                
                                100
                                
                                
                                
                                100
                                
                                
                                RMB
                                1,000,000Hebei
      Weiye Gas Co., Ltd.
                                
                                PRC
                                
                                12/18/2009
                                
                                
                                100
                                
                                
                                
                                100
                                
                                
                                RMB
                                75,439,270




(e)
Cash and Cash
Equivalents




The
Company considers all cash and other highly liquid investments with initial
maturities of three months or less to be cash equivalents.




(f)
Accounts and Other
Receivable




Accounts
and other receivable are recorded at net realizable value consisting of the
carrying amount less an allowance for uncollectible accounts, as needed. The
Company extends unsecured credit to customers in the normal course of business
and does not accrue interest on trade accounts receivable.




(g)
Advances to
Suppliers




Advances
to suppliers represent the cash paid in advance for purchasing raw materials.
The advances to suppliers are interest free and unsecured.




(h)
Investments in Equity
Securities




The
equity method of accounting was used to account for the Company’s investment in
equity securities for which the Company did not have controlling equity
interest. Non-controlling equity interest for the Company is typically a
position of less than 50% beneficial ownership.




The
consolidated statement of income includes the Company's share of the
post-acquisition results of the investment’s performance for the year. In the
consolidated balance sheet, investments in equity securities are stated at the
Company's share of the net assets of the investments plus any potential premium,
or less discounts paid at the time of acquisition, and less any identified
impairment loss.


F-13


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Beijing
Zhongran Xiangke Oil Gas Technology Co., Ltd. (“Xiangke Oil Gas”) is the
Company’s 40% owned investment and is principally engaged in sale of compressed
natural gas to domestic households and industrial firms around the suburbs of
Beijing as well as the suburban areas of the Hebei Province and
Tianjin.




Qujing
Gas Co., Ltd. (“Qujing Gas”) is the Company’s 39% owned investment and is
principally engaged in the business of gas pipeline construction in Yunnan
Province.




Place of Registration
                      
                      Form of Business
                        Structure
                      
                      Registered
                        Capital
                      
                      
                      Nominal Value of
                        Registered
                        Capital
                      
                      Principle ActivitiesP.R.C
                      
                      Sino-foreign
      equity joint venture
                      
                      RMB
                      20,000,000
                      
                      
                      
                      40
                      %
                      Distribution
      of natural gas and gas pipeline constructionP.R.C
                      
                      Equity
      joint venture
                      
                      RMB
                      30,000,000
                      
                      
                      
                      39
                      %
                      Distribution
      of natural gas and gas pipeline
construction




The
Company did not record any goodwill when it acquired its equity position in
Xiangke Oil Gas and Qujing Gas. Accordingly, in accordance with SFAS 142, the
Company has not taken an amortization expense of goodwill during the time it has
carried a 40% and 39% stakes in Xiangke and Qujing respectively.




(i)
Accounting for the
Impairment of Long-Lived Assets




The
long-lived assets held and used by the Company are reviewed for impairment
whenever events or changes in circumstances indicate that the carrying amount of
assets may not be recoverable. It is reasonably possible that these assets could
become impaired as a result of technology or other industry changes.
Determination of recoverability of assets to be held and used is by comparing
the carrying amount of an asset to future net undiscounted cash flows to be
generated by the assets.




If such
assets are considered to be impaired, the impairment to be recognized is
measured by the amount by which the carrying amount of the assets exceeds the
fair value of the assets. Assets to be disposed of are reported at the lower of
the carrying amount or fair value less costs to sell.




During
the reporting periods, there was no impairment loss.




F-14


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




(j)
Property, Plant and
Equipment




Property,
plant and equipment, other than construction in progress, are stated at cost
less accumulated depreciation and impairment loss. Depreciation is provided over
their estimated useful lives, using the straight-line method. Estimated useful
lives of the property, plant and equipment are as follows:




Assets Class
                          
                          Estimated Useful LifeGas Pipelines
      (Up to December 31, 2007)
                          
                          25
      yearsGas
      Pipelines (Starting from January 1, 2008)
                          
                          50
      yearsBuildings
                          
                          25
      yearsLeasehold
      Improvements
                          
                          25
      yearsMachinery
      & Equipment
                          
                          20
      yearsMotor
      Vehicles
                          
                          10
      yearsOffice
      Equipment
                          
                          8
      years




The cost
and related accumulated depreciation of assets sold or otherwise retired are
eliminated from the accounts and any gain or loss is included in the statement
of income. The cost of maintenance and repairs is charged to income as incurred,
whereas significant renewals and betterments are capitalized.




(k)
Intangible
Assets




Intangible
assets are stated at cost less accumulated amortization and impairment loss.
Amortization is provided over their estimated useful lives, using the
straight-line method. Estimated useful lives of the intangibles are as
follows:




Asset Class
                  
                  Estimated Useful LifeLand use rights
                  
                  20
      - 50 yearsFranchises
                  
                  30
      yearsAccounting
      software
                  
                  3
      years




For
goodwill, impairment tests are performed annually and more frequently whenever
events or changes in circumstances indicate goodwill carrying values exceed
estimated reporting unit fair values. Upon indication that the carrying values
of such assets may not be recoverable, the Company recognizes an impairment loss
as a charge against current operations.  Based on the impairment tests
performed, there was no impairment of goodwill in fiscal years 2009 and
2008.




F-15


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




(l)
Construction in
Progress




Construction
in progress represents the cost of constructing pipelines and is stated at cost.
Costs comprise direct and indirect incremental costs of acquisition or
construction. Completed items are transferred from construction in progress to
the gas pipelines of fixed assets when they are ready for their intended use.
The major cost of construction relates to construction materials, direct labor
wages, and other overhead.  Construction of pipeline, through which to
distribute natural gas, is one of the Group’s principal
businesses.  The Group builds city main pipeline network and branch
pipeline network to make gas connection to resident users, industrial and
commercial users, with the objective of generating revenue on gas connection and
gas usage fees collected from these customers. These projects, once completed,
will significantly increase the gas supply capacity.




(m)
Unearned
Revenue




Unearned
revenue represents prepayments by customers for gas purchases and advance
payments on construction and installation of pipeline contracts. The Company
records such prepayment as unearned revenue when the payments are
received.




(n)
Financial
Instruments




The
carrying amounts of all financial instruments approximate fair value. The
carrying amounts of cash, accounts receivable, accounts payable and accrued
liabilities approximate fair value due to the short-term nature of these items.
The carrying amounts of borrowings approximate the fair value based on the
Company’s expected borrowing rate for debt with similar remaining maturities and
comparable risk.




(o)
Foreign Currency
Translation




The
accompanying consolidated financial statements are presented in United States
dollars. The functional currency of the Company is the Renminbi (RMB). The
consolidated financial statements are translated into United States dollars from
RMB at year-end exchange rates as to assets and liabilities and average exchange
rates as to revenues and expenses. Capital accounts are translated at their
historical exchange rates when the capital transactions occurred.




12/31/2009
                  
                  
                  12/31/2008Years
      end RMB : US$ exchange rate
                  
                  
                  6.8372
                  
                  
                  
                  6.8542Average
      yearly RMB : US$ exchange rate
                  
                  
                  6.8409
                  
                  
                  
                  6.9623




F-16


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




The RMB
is not freely convertible into foreign currency and all foreign exchange
transactions must take place through authorized institutions. No representation
is made that the RMB amounts could have been, or could be, converted into US$ at
the rates used in translation.




(p)
Revenue
Recognition




Revenue
is recognized when services are rendered to customers when a formal arrangement
exists, the price is fixed or determinable, the delivery is completed, no other
significant obligations of the Company exist and collectability is reasonably
assured. Payments received before all of the relevant criteria for revenue
recognition are satisfied are recorded as unearned revenue.




Net sales
consist of gas and connection fee revenue. Cost of sales include gas and
connection cost. Gas connection revenue is recognized when the outcome of a
contract can be estimated reliably and the stage of completion at the balance
sheet date can be measured reliably. Sales of natural gas are recognized when
goods are delivered and title has passed.




(q)
Investment
Income




Investment
income represents the Company’s share of post-acquisition results of its
investment in equity securities for the year.




(r)
Income
Taxes




The
Company uses the accrual method of accounting to determine and report its
taxable reduction of income taxes for the year in which they are available. The
Company has implemented Statement of Financial Accounting Standards (SFAS) No.
109, Accounting for Income Taxes. Income tax liabilities computed according to
the United States and People’s Republic of China (PRC) tax laws are provided for
the tax effects of transactions reported in the financial statements and
consists of taxes currently due plus deferred taxes related primarily to
differences between the basis of fixed assets and intangible assets for
financial and tax reporting. The deferred tax assets and liabilities represent
the future tax return consequences of those differences, which will be either
taxable or deductible when the assets and liabilities are recovered or
settled.  Deferred taxes also are recognized for operating losses that
are available to offset future income taxes. A valuation allowance is created to
evaluate deferred tax assets, whether it is more likely than not that these
items will expire either before the Company is able to realize that tax benefit,
or that future realization is uncertain.




F-17


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




In
respect of the Company’s subsidiaries domiciled and operated in China and
British Virgin Islands, the taxation of these entities are summarized
below:




·
            All of the operating companies
      are located in the PRC; and GAS Investment China Co., Ltd., Sino Gas
      Construction, Ltd., and Sino Gas Investment Development, Ltd. are located
      in the British Virgin Islands. All of these entities are subject to the
      relevant tax laws and regulations of the PRC, and the British Virgin
      Islands in which the related entity domiciled. The maximum tax rates of
      the subsidiaries pursuant to the countries in which they domicile are:
      -




Subsidiary
                        
                        Country of Domicile
                        
                        Income Tax RatePRC
      Operating Companies (per Note 2. (d) Principals of
      Consolidation)
                        
                        PRC
                        
                        
                        25.0
                        %i.  GAS Investment China Co., Ltd.
                        
                        British
      Virgin Islands
                        
                        
                        0.00
                        %ii. 
      Sino Gas Construction, Ltd.
                        
                        British
      Virgin Islands
                        
                        
                        0.00
                        %iii. 
      Sino Gas Investment Development, Ltd.
                        
                        British
      Virgin Islands
                        
                        
                        0.00
                        %




·
            Effective January 1, 2008, PRC
      government implements a new 25% tax rate for all enterprises regardless of
      whether domestic or foreign enterprise without any tax holiday, which is
      defined as “two-year
      exemption followed by three-year half exemption”hitherto
      enjoyed by tax payers. As a result of the new tax law, standard 15% tax
      rate preference terminated as of December 31, 2007. However, PRC
      government has established a set of transition rules to allow enterprises
      already started tax holidays before January 1, 2008, to continue enjoying
      the tax holidays until being fully
  utilized.




·
            Since Sino Gas International
      Holdings, Inc. is primarily a holding company without any business
      activities in the United States, the Company shall not be subject to
      United States income tax for the year ended December 31,
      2009.




F-18




Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




(s)
Advertising




The
Company expensed all advertising costs as incurred.




(t)
Concentration of
Credit Risk




Concentration
of credit risk is limited to accounts receivable and is subject to the financial
conditions of major customers. The Company does not require collateral or other
security to support accounts receivable.  The Company conducts
periodic reviews of its clients’ financial condition and customers’ payment
practices to minimize collection risk on accounts receivable.




(u)
Retirement
Benefits




Retirement
benefits in the form of contributions under defined contribution retirement
plans to the relevant authorities are charged to the statements of income as
incurred.




(v)
Statutory
Reserves




As
stipulated by the Company Law of the People’s Republic of
China (PRC) as applicable to Chinese companies with foreign ownership, net
income after taxation can only be distributed as dividends after appropriation
has been made for the following:




i.
            Making up cumulative prior
      years’losses, if any;




ii.
            Allocations to the “Statutory
      reserve”of at least 10% of income after tax, as determined under PRC
      accounting rules and regulations, until the fund amounts to 50% of the
      Company's registered
capital;




iii.
            Allocations to the discretionary
      surplus reserve, if approved in the shareholders' general
      meeting.






(w)
Statement of Cash
Flows




In
accordance with Statement of SFAS 95, “Statement of Cash Flows”, cash flows from
the Company’s operations is calculated based upon the local currencies. As a
result, amounts related to assets and liabilities reported on the statement of
cash flows will not necessarily agree with changes in the corresponding balances
on the balance sheet.




F-19


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




(x)
Comprehensive
Income




Comprehensive
income is defined to include all changes in equity except those resulting from
investments by owners and distributions to owners. Among other disclosures, all
items that are required to be recognized under current accounting standards as
components of comprehensive income are required to be reported in a financial
statement that is presented with the same prominence as other consolidated
financial statements.  The Company’s current component of other
comprehensive income is the foreign currency translation
adjustment.




(y)
Recent Accounting
Pronouncements




In June
2009, FASB issued FASB Statement No. 166, Accounting for Transfers for
Financial Assets (FASB ASC 860 Transfers and Servicing) and
FASB Statement No. 167 (FASB ASC 810 Consolidation), a revision to
FASB Interpretation No. 46 (Revised December 2003), Consolidation of Variable Interest
Entities(FASB ASC 810 Consolidation).




Statement
166 is a revision to FASB Statement No. 140, Accounting for Transfers and
Servicing of Financial Assets and Extinguishments of Liabilities(FASB
ASC 860 Transfers and
Servicing), and
will require more information about transfers of financial assets, including
securitization transactions, and where entities have continuing exposure to the
risks related to transferred financial assets. It eliminates the concept of a
“qualifying special-purpose entity,” changes the requirements for derecognizing
financial assets, and requires additional disclosures. Statement No. 166 (FASB
ASC 860 Transfers and
Servicing) must be applied as of the beginning of each reporting entity’s
first annual reporting period that begins after November 15, 2009, for interim
periods within that first annual reporting period and for interim and annual
reporting periods thereafter. Earlier application is prohibited. This Statement
must be applied to transfers occurring on or after the effective date.  The
Company is still evaluating the impact of the above pronouncement.




Statement
167 is a revision to FASB Interpretation No. 46 (Revised December 2003), Consolidation of Variable Interest
Entities (FASB ASC 810 Consolidation), and changes how a reporting
entity determines when an entity that is insufficiently capitalized or is not
controlled through voting (or similar rights) should be consolidated. The
determination of whether a reporting entity is required to consolidate another
entity is based on, among other things, the other entity’s purpose and design
and the reporting entity’s ability to direct the activities of the other entity
that most significantly impact the other entity’s economic
performance. Statement No. 167 (FASB ASC 810 Consolidation) shall be
effective as of the beginning of each reporting entity’s first annual reporting
period that begins after November 15, 2009, for interim periods within that
first annual reporting period, and for interim and annual reporting periods
thereafter.  Earlier application is prohibited. The Company is still
evaluating the impact of the above pronouncement.




F-20


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




On June
30, 2009, FASB issued FASB Statement No. 168, Accounting Standards CodificationTM( FASB ASC 105 Generally Accepted Accounting
Principles)a replacement of FASB
Statement No. 162  the Hierarchy of Generally Accepted
Accounting Principles. On the effective date of this standard, FASB
Accounting Standards CodificationTM (ASC) became the source of authoritative U.S.
accounting and reporting standards for nongovernmental entities, in addition to
guidance issued by the Securities and Exchange Commission (SEC). This statement
is effective for financial statements issued for interim and annual periods
ending after September 15, 2009.  If an accounting change results from the
application of this guidance, an entity should disclose the nature and reason
for the change in accounting principle in their financial statements.  This
new standard flattens the GAAP hierarchy to two levels: one that is
authoritative (in FASB ASC) and one that is non-authoritative (not in FASB ASC).
Exceptions include all rules and interpretive releases of the SEC under the
authority of federal securities laws, which are sources of authoritative GAAP
for SEC registrants, and certain grandfathered guidance having an effective date
before March 15, 1992. Statement No. 168 is the final standard that will be
issued by FASB in that form.  There will no longer be, for example,
accounting standards in the form of statements, staff positions, Emerging Issues
Task Force (EITF) abstracts, or AICPA Accounting Statements of
Position.




The
Company is currently evaluating the potential impact, if any, of the adoption of
the above recent accounting pronouncements on its consolidated results of
operations and financial condition.




(z)   Earnings
Per Share




Basic
earnings per share is computed on the basis of the weighted average number of
shares of common stock outstanding during the period. Diluted earnings per share
is computed on the basis of the weighted average number of shares of common
stock plus the effect of dilutive potential common shares outstanding during the
period using the treasury stock method for warrants and the as-if method for
convertible securities. Dilutive potential common shares include outstanding
warrants, and convertible preferred stock.




F-21


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




3.
            RESTRICTED
      CASH




The
restricted cash reflects funds received from financing activities that is held
in an escrow account in the United States for the purpose of investor
relationship activities.




4.
            ACCOUNTS
      RECEIVABLE




For
natural gas sales, it is due when the gas is sold. Most of residential customers
are settled by prepayments with debit cards, while industrial customers are
billed and paid according to the contract terms from 10 days to one
month.




For
construction projects, connection fees are generally collected in installments.
First deposits of 30% of total contract sum are received from client when the
project commences. Second payment of 30% is received at milestone set out
following the contracts. Third payment of 30% is received after the construction
is completed. The final sum of the remaining portion normally acts as retention
money for quality warranty to the developer. The retention money would be
received by the company after the 1 year warranty period.




Trade
accounts receivable are recorded at the invoiced amount, net of allowances for
doubtful accounts and sales returns. The allowance for doubtful accounts is the
Company’s best estimate of the amount of probable credit losses in the Company’s
existing accounts receivable. The Company determines the allowance based on
customer facts and economic conditions. Outstanding account balances are
reviewed individually for collectibles. Account balances are charged off against
the allowance after all means of collection have been exhausted and collection
is improbable. To date, the Company has not charged off any balances as it has
yet to exhaust all means of collection. The Company does not have any
off-balance-sheet credit exposure to its customers.




F-22


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Accounts Receivable12/31/2009
                        
                        
                        12/31/2008Gross
      accounts receivable
                        
                        $
                        5,087,484
                        
                        
                        $
                        6,049,415Allowance
      for bad debt
                        
                        
                        (50,875
                        )
                        
                        
                        (35,794
                        )Net
      accounts receivable
                        
                        $
                        5,036,609
                        
                        
                        $
                        6,013,621




Allowance for Bad Debt12/31/2009
                        
                        
                        12/31/2008Beginning
      balance
                        
                        $
                        35,794
                        
                        
                        $
                        36,760Addition
                        
                        
                        15,081
                        
                        
                        
                        -Reversal
                        
                        
                        -
                        
                        
                        
                        (966
                        )Ending
      balance
                        
                        $
                        50,875
                        
                        
                        $
                        35,794




Accounts Receivable Aging Report12/31/2009
                        
                        
                        12/31/2008<30
      Days
                        
                        $
                        3,639,712
                        
                        
                        $
                        4,896,06630-60
      Days
                        
                        
                        276,004
                        
                        
                        
                        258,10760-90
      Days
                        
                        
                        118,704
                        
                        
                        
                        292,98890-180
      Days
                        
                        
                        422,179
                        
                        
                        
                        311,954180-360
      Days
                        
                        
                        446,515
                        
                        
                        
                        205,745>360
      Days
                        
                        
                        133,496
                        
                        
                        
                        48,760Total
                        
                        $
                        5,036,609
                        
                        
                        $
                        6,013,621




The
following are the ten most significant accounts receivable at December 31
2009:




Baishan
      Huixin Real Estate Co., Ltd
                  
                  $
                  628,737Baishan
      Xingda Real Estate Co., Ltd
                  
                  
                  417,107Hebei
      Zhonggang Steel, Ltd.
                  
                  
                  385,794Baishan
      Yongsheng Real Estate Co., Ltd.
                  
                  
                  349,684Baishan
      Lisha Real Estate Co., Ltd
                  
                  
                  319,583Jiangsu
      Zhongzheng Co., Ltd
                  
                  
                  265,767Beijing
      Huicheng Real Estate Co., Ltd
                  
                  
                  253,414Chengcheng
      Real Estate Co., Ltd.
                  
                  
                  210,429Jiangsu
      Shouyi Co., Ltd
                  
                  
                  207,704Henan
      Dihua Real Estate Co., Ltd.
                  
                  
                  135,526Total
                  
                  $
                  3,173,745


F-23


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




5.
            INVESTMENT




Ref.
                      
                      
                      
                      12/31/2009
                      
                      
                      12/31/2008(1)
                      
                      Beijing
      Zhongran Xiangke Oil Gas Technology Co., Ltd.
                      
                      $
                      5,290,855
                      
                      
                      $
                      4,817,613(2)
                      
                      Qujing
      Gas Co., Ltd.
                      
                      
                      1,711,227
                      
                      
                      
                      341,397(3)
                      
                      Construction
      Bank of China
                      
                      
                      29,251
                      
                      
                      
                      -Total
                      
                      $
                      7,031,333
                      
                      
                      $
                      5,159,009




(1).
            The Company invested $1,642,152
      (RMB 13,465,648) on Xiangke Oil Gas in the acquisition of 40% equity
      position. The $5,290,855 investment consisted of principal and accumulated
      post-acquisition investment income attributed to Xiangke Oil Gas’ prior
      years operation results.




The
following tabulation presented the condensed balance sheets and statements of
income ofXiangke Oil
Gas as of and for the years ended December 31, 2009 and 2008.




Beijing Zhongran Xiangke Oil Gas Technology Co., Ltd.Condensed Balance Sheets
                                  
                                  Condensed Statements of Income12/31/2009
                                  
                                  
                                  12/31/2008
                                  
                                  
                                  
                                  2009
                                  
                                  
                                  2008AssetsCurrent
      Assets
                                  
                                  $
                                  6,135,845
                                  
                                  
                                  $
                                  5,387,444
                                  
                                  Sales
                                  
                                  $
                                  7,379,777
                                  
                                  
                                  $
                                  8,676,806Non-Current
      Assets
                                  
                                  
                                  19,672,751
                                  
                                  
                                  
                                  16,320,027
                                  
                                  Cost
      of revenue
                                  
                                  
                                  (3,819,923
                                  )
                                  
                                  
                                  (4,807,209
                                  )Total
      Assets
                                  
                                  
                                  25,808,596
                                  
                                  
                                  
                                  21,707,471
                                  
                                  Gross
      profit
                                  
                                  
                                  3,559,854
                                  
                                  
                                  
                                  3,869,597Liabilities
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  
                                  Operating
      expenses
                                  
                                  
                                  (1,951,894
                                  )
                                  
                                  
                                  (2,276,832
                                  )Current
      Liabilities
                                  
                                  
                                  11,267,927
                                  
                                  
                                  
                                  9,663,439
                                  
                                  Other
      expenses
                                  
                                  
                                  (47,251
                                  )
                                  
                                  
                                  (291,209
                                  )Total
      Liabilities
                                  
                                  
                                  11,267,927
                                  
                                  
                                  
                                  9,663,439
                                  
                                  Earnings
      before tax
                                  
                                  
                                  1,560,709
                                  
                                  
                                  
                                  1,301,556Net
      Assets
                                  
                                  
                                  14,540,669
                                  
                                  
                                  
                                  12,044,032
                                  
                                  Income
      tax
                                  
                                  
                                  (248,259
                                  )
                                  
                                  
                                  (234,280
                                  )Total
      Liabilities & Net Assets
                                  
                                  $
                                  25,808,596
                                  
                                  
                                  $
                                  21,707,471
                                  
                                  Net
      income
                                  
                                  $
                                  1,312,450
                                  
                                  
                                  $
                                  1,067,276




(2).
            Along with two local partners in
      Qujing city, the second largest city in Yunnan province of P.R.C, the
      Company established Qujing Gas Co., Ltd. with registered capital of
      $4,387,761 (RMB 30,000,000). The Company’s investment of $1,711,227 (RMB
      11,700,000) presented 39% equity ownership of Qujing Gas. Since Qujing Gas
      has not finished the required registration procedures with local
      government, there was no business activity during fiscal year
      2009.




(3).
            The investment of $29,251 (RMB
      200,000) with Construction Bank of China was a long-term investment
      fund.




F-24


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




6.
            PROPERTY,PLANT AND
      EQUIPMENT




Property,
Plant, and Equipment consisted of the followings at December 31, 2009 and
2008:




12/31/2009
                  
                  At Cost
                  
                  
                  Accumulated
                    Depreciation
                  
                  
                  NetGas
      Pipelines
                  
                  $
                  37,329,888
                  
                  
                  $
                  2,069,545
                  
                  
                  $
                  35,260,342Motor
      Vehicles
                  
                  
                  5,775,903
                  
                  
                  
                  1,506,012
                  
                  
                  
                  4,269,890Machinery
      & Equipment
                  
                  
                  1,482,599
                  
                  
                  
                  267,076
                  
                  
                  
                  1,215,524Buildings
                  
                  
                  7,194,148
                  
                  
                  
                  335,461
                  
                  
                  
                  6,858,686Leasehold
      Improvements
                  
                  
                  80,113
                  
                  
                  
                  59,409
                  
                  
                  
                  20,704Office
      Equipment
                  
                  
                  238,673
                  
                  
                  
                  91,809
                  
                  
                  
                  146,863Total
                  
                  $
                  52,101,324
                  
                  
                  $
                  4,329,313
                  
                  
                  $
                  47,772,011




12/31/2008
                  
                  At Cost
                  
                  
                  Accumulated
                    Depreciation
                  
                  
                  NetGas
      Pipelines
                  
                  $
                  27,859,313
                  
                  
                  $
                  1,532,478
                  
                  
                  $
                  26,326,835Motor
      Vehicles
                  
                  
                  5,600,508
                  
                  
                  
                  1,109,489
                  
                  
                  
                  4,491,019Machinery
      & Equipment
                  
                  
                  857,834
                  
                  
                  
                  198,072
                  
                  
                  
                  659,762Buildings
                  
                  
                  1,568,380
                  
                  
                  
                  193,126
                  
                  
                  
                  1,375,254Leasehold
      Improvements
                  
                  
                  80,101
                  
                  
                  
                  48,325
                  
                  
                  
                  31,776Office
      Equipment
                  
                  
                  216,435
                  
                  
                  
                  67,963
                  
                  
                  
                  148,472Total
                  
                  $
                  36,182,571
                  
                  
                  $
                  3,149,453
                  
                  
                  $
                  33,033,118




Gas
pipelines purchased prior to 2008 were depreciated over their 25 years useful
lives. Starting from 2008, the Company purchased new quality of pipelines under
50 years warranty. The new gas pipelines were depreciated over their 50 years
useful lives.




Depreciation
expenses included in the consolidated statements of income for the years ended
December 31, 2009 and 2008 were $1,179,860 and $1,495,682
respectively.




F-25


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




7.
            INTANGIBLE
      ASSETS




Intangible
assets consisted of the following at December 31, 2009 and 2008:




12/31/2009
                  
                  At Cost
                  
                  
                  Accumulated
                    Amortization
                  
                  
                  NetLand
      Use Rights
                  
                  $
                  543,117
                  
                  
                  $
                  52,318
                  
                  
                  $
                  490,799Franchises
                  
                  
                  402,211
                  
                  
                  
                  371,740
                  
                  
                  
                  30,471Accounting
      Software
                  
                  
                  38,858
                  
                  
                  
                  20,404
                  
                  
                  
                  18,454Goodwill
                  
                  
                  1,677,975
                  
                  
                  
                  -
                  
                  
                  
                  1,677,975$
                  2,662,160
                  
                  
                  $
                  444,462
                  
                  
                  $
                  2,217,699




12/31/2008
                  
                  At Cost
                  
                  
                  Accumulated
                    Amortization
                  
                  
                  NetLand
      Use rights
                  
                  $
                  510,907
                  
                  
                  $
                  32,938
                  
                  
                  $
                  477,969Franchises
                  
                  
                  401,214
                  
                  
                  
                  369,603
                  
                  
                  
                  31,611Accounting
      Software
                  
                  
                  15,312
                  
                  
                  
                  9,615
                  
                  
                  
                  5,697Goodwill
                  
                  
                  1,677,975
                  
                  
                  
                  -
                  
                  
                  
                  1,677,975$
                  2,605,408
                  
                  
                  $
                  412,156
                  
                  
                  $
                  2,193,252




The
Company operated as a local natural gas distributor in a city or county, known
as an operation location, under an exclusive franchise agreement between the
Company and the local government or entities in charge of gas utility.
Franchises were the rights to develop sites in Anping and Jinzhou in China. They
were stated at cost less accumulated amortization.




Goodwill
was related to the acquisitions of Beijing Chenguang Gas, Yuxian Weiye Gas and
Guannan Weiye Gas. Management annually reviewed the carrying value of goodwill
using the sum of the discounted cash flows to determine if an impairment charge
is necessary. The Company has determined no impairment to goodwill as of
date.




F-26


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




8.
            LOANS




a. 
SHORT-TERM BANK LOANS




Name of Bank
                        
                        Due Date
                        
                        Interest Rate
                        
                        
                        2009
                        
                        
                        2008Bank
      of Dalian - Beijing Branch
                        
                        12/24/2010
                        
                        
                        5.31
                        %
                        
                        $
                        2,925,174
                        
                        
                        $
                        -Bank
      of Dalian - Beijing Branch
                        
                        12/18/2009
                        
                        
                        6.69
                        %
                        
                        
                        -
                        
                        
                        
                        2,188,439Total
                        
                        
                        
                        
                        
                        
                        
                        $
                        2,925,174
                        
                        
                        $
                        2,188,439




The loans
provided by Bank of Dalian were secured by Beijing Chenguang Gas, Ltd.’s
registered capital of $2,925,174 (RMB 20,000,000), CEO Mr. Liu Yuchuan and COO
Mr. Zhou Zhicheng’s properties, which have been appraised at total fair market
value of $933,254 (RMB 6,380,854).




Interest
expenses for the short-term bank loans were $254,931 and $187,999 for the years
ended December 31, 2009 and 2008 respectively.




b. 
LONG-TERM BANK LOANS




Name of Bank
                        
                        Due Date
                        
                        Interest Rate
                        
                        
                        2009
                        
                        
                        2008Construction
      Bank of China - Zhongguancun Branch
                        
                        12/14/2011
                        
                        
                        5.94
                        %
                        
                        $
                        4,387,761
                        
                        
                        $
                        -China
      Development Bank - Beijing Branch
                        
                        12/24/2012
                        
                        
                        5.4
                        %
                        
                        
                        2,193,880
                        
                        
                        
                        -Total
                        
                        
                        
                        
                        
                        
                        
                        $
                        6,581,641
                        
                        
                        $
                        -




The
Company obtained the loans from Construction Bank of China and China Development
Bank via a collateralized agent Zhongyuan Guoxin Credit Guarantee Co., Ltd
(“Guarantor”). Guarantor guaranteed to the Banks the entire principal and
accrued interest. The Company pledged all Beijing Zhongran Weiye Gas’
subsidiaries to the guarantor and was required to pay 2% of the outstanding
loans as financial service to the guarantor per annum. Because the Company
lacked the favorable credit history to directly establish credit facility with
the banks, the pursuance of a credit collateralization from guarantor was a
financing solution of choice.




F-27


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




9.
            OTHER
      PAYABLES




Other
payables consisted of the following at December 31, 2009 and 2008:




Ref.
                        
                        
                        
                        12/31/2009
                        
                        
                        12/31/2008(1)
                        
                        Amount
      due to Employees
                        
                        $
                        1,219,131
                        
                        
                        $
                        859,041(2)
                        
                        Tax
      Payable
                        
                        
                        695,890
                        
                        
                        
                        267,790(3)
                        
                        Payables
      to Subcontractors
                        
                        
                        2,247,036
                        
                        
                        
                        1,067,734(4)
                        
                        Payments
      for Acquisition of Baishan Weiye Gas
                        
                        
                        2,177,514
                        
                        
                        
                        3,975,631Miscellaneous
                        
                        
                        -
                        
                        
                        
                        4,675Total
                        
                        $
                        6,339,571
                        
                        
                        $
                        6,174,871




1.
            Amounts
      due to employees included accrued payroll, welfare payable, continued
      education training program cost and individual travel advance. They were
      all unsecured, interest free, and have no fixed repayment
      terms.




2.
            The
      tax payable consisted of value added tax, sales tax, income tax and local
      tax payables.




3.
            All
      the payables to subcontractors were unbilled
  liabilities.




4.
            The
      outstanding payment was related to the acquisition of Baishan Gas Co.,
      Ltd.’s assets on July 9, 2007.


F-28


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




10.
            CONVERTIBLE
      BONDS AND BOND WARRANTS




a.           $5,349,982
Convertible Bond with 3,451,601 Detachable Warrants




On
November 30, 2009, the Company completed a financing transaction with certain
purchasers issuing (i) $5,349,982 of the 8% senior secured convertible notes
(the “Bonds”) with conversion price of $0.62 to purchase an aggregate of
8,629,003 shares of the Company’s common stock and (ii) 3,451,601 warrants to
purchase an aggregate of 3,451,601 shares of the Company’s common stock, which
will expire in November 30, 2012 (both the “Bonds” and “Warrants”)




b.           $692,984
Convertible Bond with 447,086 Detachable Warrants




On
December 23, 2009, the Company completed a financing transaction with certain
purchasers issuing (i) $692,984 of the 8% senior secured convertible notes (the
“Bonds”) with conversion price of $0.62 to purchase an aggregate of 1,117,716
shares of the Company’s common stock and (ii) 447,086 warrants to purchase an
aggregate of 447,086 shares of the Company’s common stock, which will expire in
December 23, 2012 (both the “Bonds” and “Warrants”)




Pledge Agreement and
Guaranty




The notes
are secured by the pledge of 100% of the shares of the Company’s wholly owned
subsidiary Gas Investment China Co., Ltd. and a guaranty from Mr. Liu Yuchan,
the chairman of the board of directors and CEO of the Company.




Event of
Default




Upon an
event of default in any payment of interest or principal of the bonds, the
principal, accrued and unpaid interest, and any additional amounts owing in
respect of the bonds, will be due and payable at the option of the bondholders.
In addition, the bondholders have the right to convert these notes and then all
accrued and unpaid interest at any time.




Redemption




Bondholders
may require the Company to repurchase the notes in whole or in part at an amount
equal to 100% of the aggregate principal amount of the notes plus a premium such
that the total cash yield to maturity of the note is 15% per annum, upon the
occurrence of any change of control transaction or if the Company’s common stock
ceases to be quoted for trading or listed for trading on either the OTC Bulletin
Board or a subsequent market and such delisting is not cured within 30
days.




The
Company has the right to redeem either 50% or 100% of the outstanding principal
amount of these notes on or after one year from the issuance
days.


F-29


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




The
convertible bonds payable, net consisted of the followings:




12/31/2009Ref.
                    
                    
                    
                    5.3M Bonds
                    
                    
                    692K Bonds
                    
                    
                    Total(1)
                    
                    Convertible
      Bonds Payable - principal
                    
                    $
                    5,349,982
                    
                    
                    $
                    692,984
                    
                    
                    $
                    6,042,966(2)
                    
                    Less:
      Interest Discount - Warrants
                    
                    
                    (178,950
                    )
                    
                    
                    (44,417
                    )
                    
                    
                    (223,367
                    )(3)
                    
                    Less:
      Interest Discount - Beneficial Conversion Feature
                    
                    
                    (869,270
                    )
                    
                    
                    (223,252
                    )
                    
                    
                    (1,092,522
                    )(4)
                    
                    Less:
      Bond Discount - Issuance Cost
                    
                    
                    (503,766
                    )
                    
                    
                    (91,382
                    )
                    
                    
                    (595,148
                    )(5)
                    
                    Accretion
      of Interest Discount - Warrants
                    
                    
                    3,804
                    
                    
                    
                    236
                    
                    
                    
                    4,040(6)
                    
                    Accretion
      of Interest Discount - Beneficial Conversion Feature
                    
                    
                    144,878
                    
                    
                    
                    12,403
                    
                    
                    
                    157,281(7)
                    
                    Accretion
      of Bond Discount - Issuance Cost
                    
                    
                    10,709
                    
                    
                    
                    485
                    
                    
                    
                    11,194(8)
                    
                    Accretion
      of Interest Discount - Redemption
                    
                    
                    23,884
                    
                    
                    
                    773
                    
                    
                    
                    24,656Convertible
      Bonds Payable, net
                    
                    $
                    3,981,271
                    
                    
                    $
                    347,830
                    
                    
                    $
                    4,329,101




(1).
            The
      above principals were the face value of convertible
  notes.




(2).
            The
      proceeds were allocated between the convertible bonds and warrants based
      on their relative fair value. For more information pertaining the
      calculation of fair value of convertible bonds detachable warrants, see
      Note 11.




(3).
            Since
      the conversion price of bonds is $0.62, which was lower than the fair
      market value of common stock at issuance days. Therefore, beneficial
      conversion feature was applied. The Company has determined the allocation
      of beneficial conversion feature.




(4).
            The
      issuance cost consisted of commission to placement agent and legal
      expense.




(5).
            The
      interest discount of warrants was amortized over the whole period applying
      effective annual interest rate.




(6).
            The
      bonds were convertible at the option of the holders into shares of common
      stock. However, Rule 144 minimum of six months holding period requirement
      for a resale of securities was required, therefore, the beneficial
      conversion feature was amortized over six months
  period.




(7).
            The
      debt issuance cost was amortized over 36 months period applying effective
      annual interest rate.


F-30


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




(8).
            Based
      on 15% per annum redemption rate, the redemption values were determined to
      be $1,123,496 and $145,527 for the $5,349,982 and $692,984 convertible
      bonds respectively.




Included
in interest expense of $489,111, was $37,009 convertible bonds coupon expense
and $197,171 presenting 40.32% non-cash flow amortization expense of convertible
bonds interest discount.




11.
            CAPITAL
      STOCK




The
authorized capital stock consists of (i) 250,000,000 shares of common stock, par
value $0.001 per share, of which 26,769,313 shares are issued and outstanding,
and (ii) 100,000,000 shares of preferred stock, par value $0.001 per share. The
preferred stock consists of (a) series A convertible preferred stock, with
20,000,000 shares authorized and 0 shares are issued and outstanding; (b) series
B convertible preferred stock, with 5,000,000 shares authorized and 4,579,839
shares are issued and outstanding; and (c) series B-1 convertible preferred
stock, with 3,000,000 shares authorized and 95,418 shares are issued and
outstanding.


F-31


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




The
following is a summary of the material terms of its capital stock. This summary
is subject to and qualified in its entirety by its Articles of Incorporation, as
amended and corrected, certificates of designations for its series A, series B,
and series B-1 convertible preferred stock, its by-laws and by the applicable
provisions of Utah law.




Common
Stock




The
Company is authorized to issue 250,000,000 shares of common stock, with a par
value of $0.001. There are 26,769,313 shares of common stock issued and
outstanding at December 31, 2009. All shares of common stock have one vote per
share on all matters including election of directors, without provision for
cumulative voting. The common stock is not redeemable and has no conversion or
preemptive rights. The common stock currently outstanding is validly issued,
fully paid and non-assessable. In the event of liquidation of the company, the
holders of common stock will share equally in any balance of the company's
assets available for distribution to them after satisfaction of creditors and
preferred shareholders, if any. The holders of common stock are entitled to
equal dividends and distributions per share with respect to the common stock
when, as and if, declared by the board of directors from funds legally
available.




Preferred
Stock




In
addition to the 250,000,000 shares of common stock, the Company is authorized to
issue 100,000,000 shares of preferred stock, with a par value of $0.001 per
share. Shares of the preferred stock may be issued from time to time in one or
more classes or series, each of which class or series shall have such
distinctive designation or title as shall be fixed by the board of directors
prior to the issuance.




On August
30, 2006, the Company’s board of directors designated 20,000,000 shares of its
preferred stock as series A convertible preferred stock and 5,000,000 shares of
its preferred stock as series B convertible preferred stock. On August 31, 2006,
the Company filed certificates of designations for the series A and series B
convertible preferred stock with the Office of the Secretary of State of Utah.
On September 6, 2006, the board of directors amended the designations of the
Series B convertible preferred stock and the Company filed an amended
certificate of designations for the Series B convertible preferred stock with
the Office of the Secretary of State of Utah.  The board of directors
created the series A convertible preferred stock to allow the Company to
consummate the share exchange transaction with the Gas (BVI) Shareholders and
the series B convertible preferred stock in connection with its private
financing transactions. Each of the shares of series A convertible preferred
stock was automatically converted into one share of its common stock upon the
effectiveness of its reverse stock-split on November 17, 2006. On September 12,
2007, the Company’s board of directors designated 3,000,000 shares of its
preferred stock as series B-1 convertible preferred stock with the same right
and privilege as series B convertible preferred stock, and 95,418 shares of
series B-1 preferred stock were issued in connection with the September
financing transaction. Therefore, at December 31, 2009, the Company has no
shares of series A convertible preferred stock issued and outstanding, and has
4,579,839 and 95,418 shares of series B and series B-1 convertible preferred
stock issued and outstanding respectively.


F-32


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Conversion




The
Company issued 14,361,646 of its common shares upon the automatic conversion of
its series A convertible preferred shares after the 304.44-for-1 reverse
stock-split on November 17, 2006. The Company no longer has any series A
convertible preferred shares outstanding.




Each
share of the series B convertible preferred stock will become convertible into
common stock, at the option of its holder after the 304.44-for-1 reverse
stock-split, based on the then applicable conversion rate, which is initially
one share of series B convertible preferred stock for one share of common
stock.




Financing
Transactions




On
September 7, 2006, the Company entered into a stock purchase transaction with
Vision Opportunity Master Fund, Ltd., SEI Private Trust Co., and Coronado
Capital Partners LP by issuing 2,509,782 shares of series B convertible
preferred stock for an aggregate of $6,876,800 in gross cash proceeds. Pursuant
to the Purchase Agreement, 2,509,782 Series A Warrants, 1,254,891 Series B
Warrants, 2,284,651 Series J Warrants, 2,284,651 Series C Warrants and 1,142,326
Series D Warrants were issued to the private placement investors.
Simultaneously, 635,822 shares of series B convertible preferred stock and
241,708 Series A Warrants were issued to the placement agent Kuhns’ Brother.
Among the gross proceeds of $6,876,800, $675,000 was used to purchased the
Shell, Dolce Ventures, Inc. (Legal acquirer, accounting acquiree), $673,786 was
reimbursed to the placement agent Kuhns’ Brother, and $426,978 was paid for
legal counsel and other related expenses. The Company received $5,101,036 net
proceeds.




On
October 20, 2006, the Company entered into another stock purchase transaction
with Vision Opportunity Master Fund, Ltd., Nite Capital LP, and Ijaz Malik by
issuing 877,664 shares of series B convertible preferred stock for an aggregate
of $2,404,800 in gross cash proceeds. Pursuant to the Purchase Agreement,
877,664 Series A Warrants, 438,833 Series B Warrants, 798,938 Series J Warrants,
798,938 Series C Warrants and 399,469 Series D Warrants were issued to the
private placement investors. Simultaneously, $235,000 of gross proceeds were
reimbursed to the private placement agent and $10,000 of gross proceeds were
paid to transfer agent respectively. The Company received $2,159,800 net
proceeds.


F-33


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




On May
15, 2007, Vision Opportunity Master Fund, Ltd. exercised 1,094,891 shares of
Series J Warrants at $2.74 per share.  The Company received $3,000,000
cash gross proceeds.  In consideration of exercise of Series J
Warrants, 1,094,891 new Series E Warrants and 109,489 Series G Warrants were
issued to Vision and placement agent Kuhns’ Brother
respectively.  Pursuant to the financial advisory agreement between
the Company and the placement agent Kuhns’ Brother, the Company totally
reimbursed $412,241 of the gross proceeds to Kuhns’ Brother, including $146,374
disbursements of Kuhns’ Brother’s legal counsel.  The Company received
$2,587,759 net proceeds.




On
September 7, 2007, the Company entered into a securities purchase agreement with
a series of private placement investors leading by Vision Opportunity Master
Fund, Ltd. for a sale of 8,340,762 shares of the Company’s common
stock.  The Company generated an aggregate of $18,766,700 gross
proceeds.  Simultaneously, the Company entered into a Warrant Purchase
Agreement, Amendment and Waiver (“WPA”) with the holders of its outstanding
Warrants and Series B Preferred Stock, who acquired those securities by private
placement in September and October of 2006. Pursuant to the WPA, all of the
Series A and Series B Warrants issued in 2006 were purchased back by the Company
for $3,500,000; the exercise price of Series C Warrants was changed to $3.375;
all of the Series D Warrants was purchased for a purchase price of issuing
additional 770,897 shares of Series B preferred Stock; all of the outstanding
Series J and Series E Warrants were cancelled; additional 271,074 Series F
Warrants and 271,074 Series R Warrants were issued respectively. Among the
$18,766,700 cash gross proceeds, $3,500,000 was used to purchase back the Series
A and Series B Warrants issued in 2006 from private placement investors;
$1,473,833 was reimbursed to the placement agent Roth Capital, including the
out-of-pocket expenses and $232,028 legal counsel expense. The Company received
$13,792,866 net proceeds.




Financial Transactions9/7/2006
                    
                    
                    10/20/2006
                    
                    
                    5/15/2007
                    
                    
                    9/7/2007Gross
      proceeds
                    
                    $
                    6,876,800
                    
                    
                    $
                    2,404,800
                    
                    
                    $
                    3,000,000
                    
                    
                    $
                    18,766,700Used
      to Purchase Shell
                    
                    
                    (675,000
                    )
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -Commissions
      to Placement Agent
                    
                    
                    (673,786
                    )
                    
                    
                    (235,000
                    )
                    
                    
                    (265,867
                    )
                    
                    
                    (1,241,805
                    )Legal
      Counsel & Other Related Expenses
                    
                    
                    (426,978
                    )
                    
                    
                    -
                    
                    
                    
                    (146,374
                    )
                    
                    
                    (232,028
                    )Paid
      to Transfer Agent
                    
                    
                    -
                    
                    
                    
                    (10,000
                    )
                    
                    
                    -
                    
                    
                    
                    -Used
      to Purchase Warrants A & B
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    (3,500,000
                    )Net
      proceeds
                    
                    $
                    5,101,036
                    
                    
                    $
                    2,159,800
                    
                    
                    $
                    2,587,759
                    
                    
                    $
                    13,792,867




The
following table depicts the issued and outstanding shares of Common Stock,
Preferred Stock, and Warrants at December 31, 2009.




Authorized Shares
                  
                  
                  Shares issued and outstandingCommon
      Stock
                  
                  
                  250,000,000
                  
                  
                  
                  26,769,313Convertible
      Preferred Stock A
                  
                  
                  10,000,000
                  
                  
                  
                  -Convertible
      Preferred Stock B
                  
                  
                  5,000,000
                  
                  
                  
                  4,579,839Convertible
      Preferred Stock B-1
                  
                  
                  3,000,000
                  
                  
                  
                  95,418


F-34


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Strike Price
                    
                    Contractual Life
                    
                    Expiration
                      Date
                    
                    Shares issued and
                      outstanding
                    
                    
                    Weighted Average
                      Fair ValueSeries
      A Warrants
                    
                    $
                    3.84
                    
                    60
      Months
                    
                    9/6/2011
                    
                    
                    241,708
                    
                    
                    $
                    0.70Series
      C Warrants
                    
                    $
                    3.38
                    
                    60
      Months
                    
                    9/6/2011
                    
                    
                    3,083,589
                    
                    
                    $
                    0.81Series
      F Warrants
                    
                    $
                    4.84
                    
                    36
      Months
                    
                    9/6/2010
                    
                    
                    271,074
                    
                    
                    $
                    0.20Series
      G Warrants
                    
                    $
                    3.84
                    
                    48
      Months
                    
                    9/6/2011
                    
                    
                    109,489
                    
                    
                    $
                    0.44Series
      R Warrants
                    
                    $
                    4.84
                    
                    36
      Months
                    
                    9/6/2010
                    
                    
                    271,074
                    
                    
                    $
                    0.20IR
      CCG Elite’s Option
                    
                    $
                    3.00
                    
                    48
      Months
                    
                    11/1/2010
                    
                    
                    100,000
                    
                    
                    $
                    0.925.3
      M Convertible Bonds Detachable Warrants
                    
                    $
                    0.744
                    
                    36
      Months
                    
                    11/30/2012
                    
                    
                    3,451,601
                    
                    
                    $
                    0.05692K
      Convertible Bonds Detachable Warrants
                    
                    $
                    0.744
                    
                    36
      Months
                    
                    12/23/2012
                    
                    
                    447,086
                    
                    
                    $
                    0.11




The
Company used the Black-Scholes model to calculate the values of Warrants. The
following shows the assumptions that were employed in the model:




Warrants
                  A
                
                
                Warrants
                  C
                
                
                Warrants
                  F
                
                
                Warrants
                  G
                
                
                Warrants
                  R
                
                
                CCG Elite’s
                  Option
                
                
                5.3M CB
                  Warrants
                
                
                692K CB
                  WarrantsWeighted-average
      fair value of warrants
                
                $
                0.70
                
                
                $
                0.81
                
                
                $
                0.20
                
                
                $
                0.44
                
                
                $
                0.20
                
                
                $
                0.92
                
                
                $
                0.05
                
                
                $
                0.11Strike
      price
                
                $
                3.84
                
                
                $
                3.38
                
                
                $
                4.84
                
                
                $
                3.84
                
                
                $
                4.84
                
                
                $
                3.00
                
                
                $
                0.744
                
                
                $
                0.744Risk-free
      interest rate
                
                
                4.18
                %
                
                
                4.18
                %
                
                
                4.18
                %
                
                
                4.18
                %
                
                
                4.18
                %
                
                
                4.18
                %
                
                
                1.12
                %
                
                
                1.51
                %Expected
      volatility
                
                
                40.00
                %
                
                
                40.00
                %
                
                
                40.00
                %
                
                
                40.00
                %
                
                
                40.00
                %
                
                
                40.00
                %
                
                
                12.84
                %
                
                
                12.84
                %Years
      to maturity
                
                
                5.00
                
                
                
                5.00
                
                
                
                3.00
                
                
                
                4.00
                
                
                
                3.00
                
                
                
                4.00
                
                
                
                3.00
                
                
                
                3.00




Since
there is no net cash settlement arrangement for the warrants, they should be
classified as equity instrument in accordance with EITF 00-19. Thus, subsequent
changes in fair value should not be recognized.


F-35


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Total
Capitalization




The
following table depicts an analysis of total capitalization for the issuance of
Preferred Stock B, Preferred Stock B-1, Common Stock, and the related additional
Paid in Capital at December 31, 2009:




Preferred Stock B
                    
                    
                    Preferred Stock B-1
                    
                    
                    Common StockName of Shareholders
                    
                    Number of Shares
                      outstanding
                    
                    
                    Capital
                    
                    
                    Number of Shares
                      outstanding
                    
                    
                    Capital
                    
                    
                    Number of Shares
                      outstanding
                    
                    
                    Capital
                    
                    
                    Additional Paid
                      in Capital
                    
                    
                    % of Equity
                      HoldingsManager
      / Insider
                    
                    
                    -
                    
                    
                    $
                    -
                    
                    
                    
                    -
                    
                    
                    $
                    -
                    
                    
                    
                    12,653,662
                    
                    
                    $
                    12,654
                    
                    
                    
                    4,064,862
                    
                    
                    
                    47
                    %Minority
      Investor
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    3,428,551
                    
                    
                    
                    3,428
                    
                    
                    
                    747,457
                    
                    
                    
                    13
                    %Private
      Placement- Investor
                    
                    
                    4,579,839
                    
                    
                    
                    4,580
                    
                    
                    
                    95,418
                    
                    
                    
                    95
                    
                    
                    
                    10,687,100
                    
                    
                    
                    10,687
                    
                    
                    
                    23,848,122
                    
                    
                    
                    40
                    %Beneficial
      Conversion Feature
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    -
                    
                    
                    
                    8,094,814
                    
                    
                    
                    -4,579,839
                    
                    
                    $
                    4,580
                    
                    
                    
                    95,418
                    
                    
                    $
                    95
                    
                    
                    
                    26,769,313
                    
                    
                    $
                    26,769
                    
                    
                    
                    36,755,255
                    
                    
                    
                    100
                    %


F-36


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




12.
            INCOME
      TAX




January
1, 2008, the PRC government implemented a new income tax laws for all
enterprises. The new law imposed a 25% income tax rate on Company’s subsidiary
Beijing Gas. As such, Beijing Gas provided a $778,480 income tax expense for the
year ended December 31, 2008. Subsequently, in 2009, the Beijing was granted by
the PRC government a 10% income tax exemption. The exemption is the result of
Beijing Gas new recognition as a high-tech green energy enterprise. In
accordance with this exemption, Beijing Gas will enjoy a 15% tax rate.
Consequently, the PRC government will refund $229,527, (a 10% income tax
provision) to Beijing Gas from its 2008 payment. The Company has accounted for
this transaction as a reduction of its 2009 income tax expense.




The
following table details the difference between the actual tax provisions and the
amounts of tax exemption obtained from PRC government for the periods ended
December 31, 2009 and 2008.




12/31/2009
                  
                  
                  12/31/2008Provision
      for Income Tax - PRC Subsidiaries
                  
                  $
                  1,324,184
                  
                  
                  $
                  903,806Tax
      Exemption - Granted by PRC Government
                  
                  
                  (229,527
                  )
                  
                  
                  -Income
      Tax
                  
                  $
                  1,094,657
                  
                  
                  $
                  903,806


F-37


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




13.
            SEGMENT
      INFORMATION




The
Company has contracted with customers usually in two revenue segments
altogether, one is for the construction and installation of gas facilities and
another one is the subsequent sales of gas to the customers through the gas
facilities the Company constructs. However, the respective gas facilities
contracts and gas supply contracts have separately provided for the basis of
revenue recognition and distinctive from each other for the relevant
cost-and-revenue to be incurred and hence separate calculation and subsequent
payment of fees for respective business without any interdependence on each
other in this respect.




For
management purposes, the company is currently organized into two major operating
divisions - gas pipeline construction (installation of gas facilities) and sales
of piped gas. These principal operating activities are the basis on which the
Company reports its primary segment information.




Financial Position Segment Report




As of December 31, 2009




Gas
                                  Distribution
                                
                                
                                Gas Pipeline
                                  Installation
                                
                                
                                Shell, BVIs, &
                                  Eliminations
                                
                                
                                TotalAssetsCurrent
      Assets
                                
                                $
                                12,361,628
                                
                                
                                $
                                8,090,196
                                
                                
                                $
                                2,247,402
                                
                                
                                $
                                22,699,226Non-Current
      Assets
                                
                                
                                27,839,832
                                
                                
                                
                                42,538,606
                                
                                
                                
                                -
                                
                                
                                
                                70,378,438Total
      Assets
                                
                                
                                40,201,460
                                
                                
                                
                                50,628,802
                                
                                
                                
                                2,247,402
                                
                                
                                
                                93,077,664LiabilitiesCurrent
      Liabilities
                                
                                
                                1,695,239
                                
                                
                                
                                16,762,395
                                
                                
                                
                                441,426
                                
                                
                                
                                18,899,060Non-current
      Liabilities
                                
                                
                                1,002,095
                                
                                
                                
                                9,908,647
                                
                                
                                
                                -
                                
                                
                                
                                10,910,742Total
      Liabilities
                                
                                
                                2,697,334
                                
                                
                                
                                26,671,042
                                
                                
                                
                                441,426
                                
                                
                                
                                29,809,802Net Assets
                                
                                
                                37,504,126
                                
                                
                                
                                23,957,760
                                
                                
                                
                                1,805,976
                                
                                
                                
                                63,267,862Liabilities & Equities
                                
                                $
                                40,201,460
                                
                                
                                $
                                50,628,802
                                
                                
                                $
                                2,247,402
                                
                                
                                $
                                93,077,664


F-38


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Operation
Result Segment Report




For
the year ended December 31, 2009




Gas
                              Distribution
                            
                            
                            Gas Pipeline
                              Installation
                            
                            
                            Shell, BVIs, &
                              Eliminations
                            
                            
                            TotalSales
      Revenue
                            
                            $
                            21,881,002
                            
                            
                            $
                            14,320,249
                            
                            
                            $
                            (8,609,750
                            )
                            
                            $
                            27,591,501Cost
      of Revenue
                            
                            
                            (21,001,941
                            )
                            
                            
                            (5,628,157
                            )
                            
                            
                            8,512,598
                            
                            
                            
                            (18,117,500
                            )Gross
      Profit
                            
                            
                            879,061
                            
                            
                            
                            8,692,092
                            
                            
                            
                            (97,152
                            )
                            
                            
                            9,474,001Operating
      Expense
                            
                            
                            (329,942
                            )
                            
                            
                            (3,262,447
                            )
                            
                            
                            (815,136
                            )
                            
                            
                            (4,407,525
                            )Operating
      Income/(Loss)
                            
                            
                            549,119
                            
                            
                            
                            5,429,645
                            
                            
                            
                            (912,288
                            )
                            
                            
                            5,066,476Other
      Income/(Loss)
                            
                            
                            6,959
                            
                            
                            
                            68,806
                            
                            
                            
                            -
                            
                            
                            
                            75,765Earnings
      before tax
                            
                            
                            556,078
                            
                            
                            
                            5,498,451
                            
                            
                            
                            (912,288
                            )
                            
                            
                            5,142,241Income
      tax
                            
                            
                            (100,539
                            )
                            
                            
                            (994,118
                            )
                            
                            
                            -
                            
                            
                            
                            (1,094,657
                            )Net
      Income
                            
                            $
                            455,539
                            
                            
                            $
                            4,504,333
                            
                            
                            $
                            (912,288
                            )
                            
                            $
                            4,047,584




Financial
Position Segment Report




As
of December 31, 2008




Gas
                                  Distribution
                                
                                
                                Gas Pipeline
                                  Installation
                                
                                
                                Shell, BVIs, &
                                  Eliminations
                                
                                
                                TotalAssetsCurrent
      Assets
                                
                                $
                                11,815,718
                                
                                
                                $
                                3,915,982
                                
                                
                                $
                                423,986
                                
                                
                                $
                                16,155,686Non-Current
      Assets
                                
                                
                                14,474,690
                                
                                
                                
                                43,066,162
                                
                                
                                
                                -
                                
                                
                                
                                57,540,852Total
      Assets
                                
                                
                                26,290,408
                                
                                
                                
                                46,982,144
                                
                                
                                
                                423,986
                                
                                
                                
                                73,696,538LiabilitiesCurrent
      Liabilities
                                
                                
                                1,353,788
                                
                                
                                
                                14,487,400
                                
                                
                                
                                -
                                
                                
                                
                                15,841,188Total
      Liabilities
                                
                                
                                1,353,788
                                
                                
                                
                                14,487,400
                                
                                
                                
                                -
                                
                                
                                
                                15,841,188Net Assets
                                
                                
                                24,936,620
                                
                                
                                
                                32,494,744
                                
                                
                                
                                423,986
                                
                                
                                
                                57,855,350Liabilities & Equities
                                
                                $
                                26,290,408
                                
                                
                                $
                                46,982,144
                                
                                
                                $
                                423,986
                                
                                
                                $
                                73,696,538


F-39


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




Operation
Result Segment Report




For
the year ended December 31, 2008




Gas
                              Distribution
                            
                            
                            Gas pipeline
                              Installation
                            
                            
                            Shell, BVIs, &
                              Others
                            
                            
                            TotalSales
      Revenue
                            
                            $
                            16,176,243
                            
                            
                            $
                            9,634,907
                            
                            
                            $
                            (4,362,662
                            )
                            
                            $
                            21,448,488Cost
      of Revenue
                            
                            
                            (15,099,068
                            )
                            
                            
                            (3,242,102
                            )
                            
                            
                            4,362,662
                            
                            
                            
                            (13,978,508
                            )Gross
      Profit
                            
                            
                            1,077,175
                            
                            
                            
                            6,392,805
                            
                            
                            
                            -
                            
                            
                            
                            7,469,980Operating
      Expense
                            
                            
                            (561,276
                            )
                            
                            
                            (3,346,895
                            )
                            
                            
                            (872,227
                            )
                            
                            
                            (4,780,398
                            )Operating
      Income/(Loss)
                            
                            
                            515,899
                            
                            
                            
                            3,045,910
                            
                            
                            
                            (872,227
                            )
                            
                            
                            2,689,582Other
      Income / Expense
                            
                            
                            31,390
                            
                            
                            
                            202,134
                            
                            
                            
                            (418,807
                            )
                            
                            
                            (185,283
                            )Earnings
      before tax
                            
                            
                            547,289
                            
                            
                            
                            3,248,044
                            
                            
                            
                            (1,291,034
                            )
                            
                            
                            2,504,299Income
      tax
                            
                            
                            (130,329
                            )
                            
                            
                            (773,477
                            )
                            
                            
                            -
                            
                            
                            
                            (903,806
                            )Net
      Income
                            
                            $
                            416,960
                            
                            
                            $
                            2,474,567
                            
                            
                            $
                            (1,291,034
                            )
                            
                            $
                            1,600,493




The
Company’s
operations are located in the PRC. All revenue is from customers in the PRC. All
of the Company’s assets are located in the PRC. Sales of natural gas and gas
pipeline construction are carried out in the PRC. Accordingly, no analysis of
the Company’s
sales and assets by geographical market is presented.




No other
measures of segment profit or loss and assets have been provided or reviewed by
the company's chief operating decision maker.


F-40


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




15.
            EARNINGS
      PER SHARE




Components
of basic and diluted earnings per share were as follows:




Ref.
                                  
                                  2009
                                  
                                  
                                  2008Net
      Income
                                  
                                  
                                  
                                  $
                                  4,047,584
                                  
                                  
                                  $
                                  1,600,493Preferred
      Dividends
                                  
                                  
                                  
                                  
                                  -
                                  
                                  
                                  
                                  -Constructive
      Preferred Dividends
                                  
                                  
                                  
                                  
                                  -
                                  
                                  
                                  
                                  -Income
      Available to Common Stockholders for Basic EPS
                                  
                                  
                                  
                                  $
                                  4,047,584
                                  
                                  
                                  $
                                  1,600,493Interest
      expense for convertible bonds, net of
    tax
                                  
                                  
                                  
                                  
                                  234,180
                                  
                                  
                                  
                                  -Income
      Available to Common Stockholders for Diluted EPS
                                  
                                  
                                  
                                  $
                                  4,281,764
                                  
                                  
                                  $
                                  1,600,493Original
      Shares
                                  
                                  
                                  
                                  
                                  25,269,313
                                  
                                  
                                  
                                  24,877,271Addition
      to Common Stock
                                  
                                  
                                  
                                  
                                  966,667
                                  
                                  
                                  
                                  238,404Basic
      Weighted Average Shares Outstanding
                                  
                                  
                                  
                                  
                                  26,235,980
                                  
                                  
                                  
                                  25,115,675Addition
      to Common Stock from Conversion of Preferred Stock B
                                  
                                  
                                  
                                  
                                  4,579,839
                                  
                                  
                                  
                                  4,733,455Addition
      to Common Stock from Conversion of Preferred Stock B-1
                                  
                                  (1)
                                  
                                  
                                  -
                                  
                                  
                                  
                                  95,418Addition
      to Common Stock from Exercise of Warrants
                                  
                                  (2)
                                  
                                  
                                  -
                                  
                                  
                                  
                                  -Diluted
      Weighted Average Shares Outstanding
                                  
                                  
                                  
                                  
                                  30,815,819
                                  
                                  
                                  
                                  29,944,548Earnings
      Per ShareBasic
                                  
                                  
                                  
                                  $
                                  0.15
                                  
                                  
                                  $
                                  0.06Diluted
                                  
                                  
                                  
                                  $
                                  0.14
                                  
                                  
                                  $
                                  0.05Weighted
      Average Shares OutstandingBasic
                                  
                                  
                                  
                                  
                                  26,236,980
                                  
                                  
                                  
                                  25,115,675Diluted
                                  
                                  
                                  
                                  
                                  30,815,819
                                  
                                  
                                  
                                  29,944,548




(1).
            The
      application of conversion of preferred stock B-1 was anti-diluted for the
      calculation of 2009 diluted EPS.




(2).
            The
      Company’s annual average stock prices were $0.57 and $1.13 in 2009 and
      2008. Therefore, the exercises of Warrants were not
      applicable.


F-41


Sino
Gas International Holdings, Inc.




Notes
to Consolidated Financial Statements




As
of and for the years ended December 31, 2009 and 2008




(Stated
in US Dollars)




17.
            LIQUIDATED
      DAMAGE




The
Company entered into a registration rights agreement related to a private
placement financing transaction with accredited investors on September 13, 2007.
Pursuant to the agreement, the Company had to (1) file the registration
statement within 45 days of the execution, and (2) declare the effectiveness
within 150 days of filing the registration statement.  However, the
Company did not meet the aforementioned requirements under the registration
rights agreement, and was subjected to liquidated damages. The Company has paid
$481,805 in liquidated damages to investors in 2008, which was reported as other
expense in the statements of income.




18.
            CONTINGENT
      LIABILITIES




a.
            Pursuant
      to the warrants purchase agreement related to 2006 private placement
      financing transactions, the Company was required to reach $7.9 million and
      $11 million net income target for the fiscal years ended 2007 and 2008
      respectively. However, the Company did not meet the stipulated 2007 and
      2008 net income target and therefore incurred certain contingent
      liabilities.




On May
26, 2009, the private placement investors led by Vision Opportunity Master Fund,
Ltd. waived the 2007 net income target application. The Company was exempt from
the issuance of 1.2 million shares contingent common stock. Simultaneously, 1.5
million shares make good stock held in an escrow account were issued to the
private placement investor on May 8, 2009 in the compensation of not attaining
the 2008 net income target. A cost of $1,500, based on US$0.001 par value, was
debited to additional paid in capital account.




b.
            On
      September 14, 2009, the IRS of United States charged the Company $270,000
      penalty for the failure to file timely Form 5471 on December 31, 2007 tax
      return. However, the Company did not believe it should be subject to this
      liability because of the fact that the Company was only a holding company.
      It did not have any tax liability for the year 2007. The Company appealed
      the penalty by filing protest letter to IRS office on February 12, 2010.
      As of March 24, 2010, the Company has not received any reply from
      IRS.


F-42